For tax purposes, acquisition costs include far more than the price on the invoice. You capitalize the purchase price plus every expenditure needed to get the asset to its intended location and into working condition: sales tax, import duties, freight and insurance in transit, installation labor, testing, and legal or title fees tied to securing ownership. Those costs become the asset’s basis, and you recover them through depreciation, amortization, or cost of goods sold rather than deducting them the year you write the check. Different asset classes follow different rules, and a few categories of spending never get capitalized at all.
Equipment, Machinery, and Vehicles
For tangible property, basis starts with the purchase price and grows to include everything you had to spend to make the asset usable.
Sales tax and import duties are added to the invoice price. Freight, shipping, and insurance in transit go in as well. Installation costs count: the labor and materials to bolt a machine to the floor, wire it into your electrical system, or otherwise fit it into your operation. Testing costs incurred before the asset is placed in service are capitalized. If you buy used equipment and refurbish or modify it before putting it to work, those pre-service improvements are part of the capitalized cost.
Capitalization stops the moment the asset is ready for its intended use. After that point, routine maintenance and minor repairs are expensed in the period you pay for them. Major improvements that meaningfully extend the useful life or increase the capacity of the asset get capitalized as additions to the existing basis.
Land
Land doesn’t wear out, so there’s no depreciation to worry about, but the basis still matters when you eventually sell. Every cost tied to acquiring and preparing land becomes part of its permanent basis: legal fees for the title search, recording fees, and broker commissions. Grading, draining, clearing, and filling the site to prepare it for construction are capitalized to the land.
If you demolish an existing building to clear the site for new construction, the demolition cost is added to the land’s basis, not the new building’s, because the demolition was necessary to make the land usable for your intended purpose.
Inventory
Inventory is carried at the full cost of getting goods to their present location and condition. For a manufacturer that means direct materials, direct labor, and a share of factory overhead. For a retailer or wholesaler it starts with the supplier’s invoice price, plus import duties, inbound freight, and any handling or inspection costs needed to make the goods ready for sale.
Selling costs are never capitalized into inventory. Storage costs incurred after goods are ready for sale are period expenses. The capitalized cost only hits the income statement as cost of goods sold when the product actually sells.
UNICAP and the Small Business Exemption
The Uniform Capitalization rules under Section 263A require businesses to capitalize not just direct production or purchasing costs but also an allocable share of indirect costs like warehousing, purchasing department overhead, and portions of employee benefits tied to production or acquisition activities. The rules apply both to property you produce and to property you buy for resale.1Office of the Law Revision Counsel. 26 USC 263A – Capitalization and Inclusion in Inventory Costs of Certain Expenses
Smaller businesses get relief. If your average annual gross receipts over the prior three tax years fall at or below an inflation-adjusted threshold, you’re exempt from UNICAP. For tax year 2025 that threshold was $31 million, and it adjusts upward each year with inflation.2Internal Revenue Service. Publication 551 – Basis of Assets The exemption doesn’t apply to tax shelters regardless of size.
Intangible Assets
When you purchase an intangible like a patent, trademark, copyright, or license, capitalize the purchase price along with any legal fees, registration costs, and non-refundable taxes needed to secure your ownership rights. Amortize those capitalized costs over the asset’s useful life or its legal life, whichever is shorter.
Internally Developed Software
Software you build yourself follows a phased rule. Costs during early planning and feasibility work are expensed as incurred. Capitalization begins once management commits to funding the project and it’s probable the software will be completed and used as intended. That covers programmer wages, external consulting fees, and materials directly used in coding and testing. Once the software is substantially complete and operational, capitalization stops; training and ongoing maintenance are expensed.
Research and Experimental Costs
The tax treatment of R&D changed twice in recent years and it’s worth getting current.
Under the Tax Cuts and Jobs Act, businesses had to capitalize domestic research and amortize it over five years, with foreign research amortized over fifteen. The One Big Beautiful Bill Act then enacted a new Section 174A that permanently restores immediate deduction for domestic research and experimental expenditures paid or incurred in tax years beginning after December 31, 2024. For 2026 you can fully expense domestic R&D in the year you pay for it, or elect to capitalize and amortize it over at least 60 months if that fits your tax planning better.
Foreign research still has to be capitalized and amortized ratably over a 15-year period beginning at the midpoint of the tax year the expenditure is paid or incurred.3Office of the Law Revision Counsel. 26 USC 174 – Amortization of Research and Experimental Expenditures If any of your research spending happens outside the United States, flag it separately.
Buying a Business
Acquiring another company works differently from buying a single asset. Under ASC 805, the acquisition price is measured at the fair value of what the buyer hands over — cash, stock, assumed liabilities, or some combination — and that total is allocated across the individual assets acquired and liabilities assumed, each at fair value on the closing date. Anything left over becomes goodwill.
Here the pattern breaks. The costs of actually doing the deal are not capitalized. Advisory fees to investment bankers, legal fees for the purchase agreement, and accounting fees for due diligence are expensed in the period incurred. They’re treated as the acquirer’s operating costs, not part of what was exchanged for the business.
There’s one carve-out: costs of issuing securities to finance the deal. Costs tied to issuing new equity reduce additional paid-in capital. Costs of issuing debt are capitalized as deferred financing costs and amortized over the debt’s life. Everything else associated with putting the transaction together hits the income statement immediately.
The De Minimis Safe Harbor
Not every asset purchase needs to be capitalized. The IRS offers a de minimis safe harbor that lets you expense small-dollar tangible property outright. If your business has an applicable financial statement (generally an audited set of financials), you can expense items costing up to $5,000 per invoice or per item. Without an applicable financial statement, the ceiling is $2,500 per invoice or item.4Internal Revenue Service. Tangible Property Final Regulations
To use the safe harbor, attach an election statement to your timely filed tax return each year. The statement identifies you as the taxpayer and declares the election under Reg. Section 1.263(a)-1(f). Once filed, it can’t be revoked for that tax year. Easy to skip, and helpful at audit time when the IRS asks why an $1,800 laptop wasn’t depreciated over five years.
Interest During Construction
Interest on debt used to finance an asset that’s already ready for use is expensed as a period cost. But when you’re building or producing an asset that takes a substantial period to get ready for its intended use, the interest costs you incur during that construction or production period must be capitalized as part of the asset’s cost.5Financial Accounting Standards Board. Summary of Statement No. 34 This applies to buildings under construction, ships being built for lease, and major real estate development projects. Once the asset reaches its intended condition and location, capitalization stops and any ongoing borrowing costs go straight to the income statement.
Costs That Are Never Capitalized
Several categories of spending stay off the balance sheet no matter how closely they relate to an asset you just bought:
- General and administrative overhead not directly tied to production or acquisition — executive salaries, corporate office rent, accounting department costs.
- Training employees to operate new equipment, even though you wouldn’t have the training cost without the asset.
- Operating losses from running a new asset below full capacity while people learn to use it.
- Routine maintenance and minor repairs that keep an asset in its current working condition.
The line between a capitalizable improvement and an expensable repair is where most disputes with the IRS come from. A workable rule: if the work restores the asset to its original condition, it’s a repair. If it makes the asset materially better, longer-lasting, or adapted to a new use, it’s an improvement that gets capitalized.
How Fast You Recover Capitalized Costs
Capitalizing an asset doesn’t mean waiting years to deduct it. Two provisions let most businesses recover the basis of qualifying tangible property quickly on the tax return.
Section 179 lets you deduct the full cost of qualifying property in the year it’s placed in service rather than spreading it over the recovery period. For 2026 the base deduction limit is $2,500,000, adjusted upward for inflation, and the deduction phases out dollar-for-dollar once total qualifying property placed in service during the year exceeds a base threshold of $4,000,000, also inflation-adjusted.6Office of the Law Revision Counsel. 26 USC 179 – Election to Expense Certain Depreciable Business Assets The Section 179 deduction can’t exceed taxable income from active business operations, so it won’t create or increase a net loss.
Bonus depreciation under Section 168(k) offers an additional first-year deduction on qualifying new and used property. The One Big Beautiful Bill Act restored 100% bonus depreciation after the earlier phase-down schedule. Bonus depreciation has no dollar cap and can generate a net operating loss.
Neither provision changes what you capitalize. You still build the basis the same way — purchase price, freight, installation, testing, and everything else needed to get the asset ready. What changes is how quickly that basis becomes a deduction. For a properly capitalized $200,000 piece of equipment, the practical result is often a full write-off in year one.