Software Capitalization

Software capitalization is an accounting practice where the costs associated with developing software are recognized as fixed assets on the balance sheet. Instead of expensing these costs immediately as they occur, they are amortized over the useful life of the software.

This practice recognizes that software, much like physical machinery or buildings, provides long-term value to the organization beyond the accounting period in which it was built.

Our platform automates R&D capitalization under under GAAP (ASC 350-40) or IFRS (IAS 38) accounting standards. By analyzing engineering activity — such as commits, pull requests, tickets, and agent-generated output — we automatically classify and estimate capitalizable work.

Capitalizing software development costs offers significant financial and strategic advantages:

Improved profitability: Capitalizing eligible development costs reduces current-period expenses, improving reported earnings.
Smoothed expenses: Costs are recognized over time rather than upfront, reducing volatility in reported expenses during major development efforts.
Engineering and finance alignment: Capitalization provides a clear framework for engineering and finance to align on how development work creates long-term value.

Costs can be capitalized when they relate to building or significantly enhancing a software product during the application development phase. This typically includes new features, functionality, major enhancements, and system integration work. Costs related to bug fixes, routine maintenance, or planning activities are usually expensed rather than capitalized.

How Software.com Helps

Capitalization typically relies on timesheets, surveys, and other manual inputs. These approaches are prone to error, inconsistent, and often materially incorrect. Software.com eliminates this manual process by automatically deriving capitalization data directly from your Git and project management systems.

Software.com’s analysis engine is built to support ASC 350-40 (US GAAP) and IAS 38 (IFRS).

Work Classification

Our AI analyzes metadata from your development workflow to identify capitalizable development work. It looks at:

PR title: Analyzes natural language to detect “feature” vs “fix” intent
PR labels: Uses your existing tagging taxonomy (e.g., enhancement, bug, feature)
Linked issues: Correlates the PR with the issue type (e.g., feature, bug)

Effort Calculation

Our AI uses pull request and linked issue metadata to estimate the level of effort for each change and convert that into weighted hours per contributor based on their overall body of work and configured availability. We evaluate development activity using:

Lead time: Time elapsed from the first commit to the merge
Code volume: Lines added, deleted, and changed
Change complexity: Number of files modified and file types
Feedback cycles: Number of review cycles, CI jobs run, CI attempts

Evidence Package

While our AI engine provides a high-confidence baseline, you retain full control for auditing purposes:

Simple workflows for finance and engineering to review, verify, and adjust data
Automated evidence trail for all classifications
Defensible documentation for audits

You can export compliant capitalization reports to share with your Finance or Accounting team. The downloadable report shows engineering effort by month, by contributor, and by pull request, including weighted hours split across capitalizable and non-capitalizable work, so finance only needs to add salary data to complete capitalization calculations.

Generate a Capitalization Report

Select a monthly report

Navigate to the Software Capitalization page and click Start a review on the month you want to review. The monthly report shows:

Each contributor included in the period
Total capitalizable pull requests and capitalizable hours per contributor
Contributors whose work has not yet been reviewed or verified

You can optionally filter the view by team to focus only on relevant contributors.

Review contributor work

Select a contributor to begin your review. For each contributor, you can:

Adjust availability in hours for the month (default is 160 hours for full-time contributors)
Review all associated pull requests and their assigned classifications

Availability can be adjusted to account for vacation, part-time status, or time spent on non-development work.

The contributor view shows a breakdown of work split between Capitalizable and Non-Capitalizable effort, along with a calculated level of effort. Review each pull request to confirm:

The capitalization category
The estimated level of effort

If needed, you can manually adjust the category or level of effort for any pull request. When you’re finished reviewing that contributor, click Complete Review.

Repeat this process for each contributor included in the report.

Export the capitalization report

Once all contributors have been reviewed and verified, you can download the capitalization report. You can export monthly reports, covering a single reviewed month, or annual reports, which aggregate data from all completed months in the year.

The downloadable report shows engineering effort by month, by contributor, and by pull request. If you enter a salary for a contributor on the Contributors tab in the CSV, capitalizable costs are automatically calculated across all relevant tabs.

Appendix: Capitalization Rules

This appendix summarizes the key accounting standards governing when software development costs may be capitalized under U.S. GAAP and IFRS.

ASC 350-40: Internal-Use and SaaS

ASC 350-40 applies to software built for internal use or cloud-based platforms (i.e. SaaS) where the customer does not take possession of the code. Capitalization begins when the preliminary project stage is completed, management authorizes the project, and it is probable the project will be completed. Capitalized costs include coding, configuration, and testing of new features or major improvements. Planning, training, and maintenance are expensed.

ASC 985-20: External-Use

ASC 985-20 applies to software intended to be sold, leased, or licensed for a customer to host on their own systems. Capitalization begins after technological feasibility is established—meaning all planning, designing, coding, and testing are completed to prove the product works. Research and development costs prior to feasibility are expensed.

IAS 38: Intangible Assets

IAS 38 is the global standard for internally generated software under IFRS. Capitalization starts during the development phase when a company demonstrates technical feasibility, the intent to complete the asset, and the ability to generate future economic benefit. Direct costs for creating and preparing the asset are capitalized. Research expenditure is recognised as an expense.