Is New Product Development Expensed or Capitalized?

Developing a new product for your small business requires you to spend money on research, design, and other related costs. Under generally accepted accounting principles or GAAP, a business must record these costs as expenses on its income statement in the period in which it incurs them instead of capitalizing them on its balance sheet. Because expenses impact your financial statements differently than capitalized costs, it’s important to record them properly to report the correct amount of profit.

About New Product Development Costs

New product development costs fall under the category of research or development, known as “R&D.” Research involves gathering data about a new product or technology, while development involves converting that information into an actual product. An example of a research expense is a fee paid to an engineering firm to discover new technology. Examples of development expenses include the cost of materials used to build a prototype and the wages paid to employees who test the prototype.

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Capitalizing the R&D Cost

Under International Financial Reporting Standards rules, companies can capitalize product development costs only if the company can prove that the product in development will become commercially viable, reports?Corporate Finance Institute. This means the product in R&D is likely, on balance, to make it through the research and approval process and will generate revenue at some point in the future. Companies can subjectively determine the commercial viability of the product, which can lead to difficulties if the research team is unduly optimistic about the likely success of their efforts.