Tax Treatment of Patent Expenses

Gregory Hamel for Demand Media writes: It can take years of hard work and research for inventors to create and perfect new devices, which gives them a vested interest in protecting their ideas. A patent is a type of legal protection that gives an inventor the exclusive right to develop, produce and sell new useful idea for up to 20 years. Business-related patent costs are generally tax deductible, although specific deduction rules vary from one type of expense to another.

RESEARCH AND EXPERIMENTAL COSTS

Self-employed people like inventors and small business owners often spend cash on research and experimentation to develop and improve their products and ideas. According to the Internal Revenue Service, the costs of obtaining a patent, including legal fees paid during the application process, are considered research and experimental costs. However, funds paid to acquire a patent from someone else are not considered research and experimental costs.

DEDUCTION OPTIONS

The government gives inventors two deduction options when it comes to business related research and experimental costs: treating them as a current expenses or a capital expense. If treated as a current expense, the full amount of the costs can be deducted in the year they were paid. When considered a capital expense, the inventor has to take deductions for the costs over the course of 10 years.

OTHER LEGAL FEES

In general, all legal fees necessary to do business are tax deductible in the year paid unless they are paid to acquire assets. As a result, legal costs related to defending against patent lawsuits are deductible business expenses in the year they were incurred. Fees paid to sue another party for patent infringement aren't deductible as current expenses. Instead, those costs have to be deducted over time as capital expenses.

CONSIDERATIONS

Deductions for business-related expenses are subtracted from total business revenue to calculate the net earnings from self-employment that are subject to income tax. Since deductions work by reducing taxable income, they do not save any money if a taxpayer has no taxable income. For instance, if an inventor has no business income or runs a business that is not profitable, he has no taxable net business earnings, so an extra deduction can't reduce taxes further.