State Conformity to Section 174 Changes and New §174A Under the OBBBA
The OBBBA brought major relief for companies investing in research by reversing the 2017 TCJA treatment of Section 174 R&D expenses. Businesses can once again fully deduct domestic research and experimental (“R&E”) expenses in the year incurred. This change is codified as IRC §174A, which permanently reinstates immediate expensing for domestic R&E. While Congress intended to make this a straightforward change with many flexible options at the federal level, OBBBA’s impact on state taxes is far more complex and is rooted in established state rules. It is not as simple as each state simply automatically deciding to follow the new federal rules. The state level action hinges on how the state’s tax code conforms to the IRC.
Rolling vs. Static Conformity
States generally use federal taxable income as a starting point for state corporate and personal income taxes, but conformity can be either rolling or static. In rolling conformity states, the tax code automatically incorporates federal tax law changes as they occur (unless the state explicitly decouples from a provision). In static or fixed-date conformity states, the state’s tax code is tied to the IRC as of a specific date; any federal changes after that date are not recognized until the legislature updates the law. Many states also selectively decouple from certain federal provisions for state purposes, for example, it’s common to decouple from bonus depreciation or other costly deductions that directly impact revenue flowing into the coffers.
These conformity differences mean that a federal change like Section 174A can produce very different outcomes across states. A rolling conformity state will automatically adopt the restored immediate R&D deduction, unless lawmakers intervene to decouple from it. In contrast, a static conformity state with an IRC tie-in date prior to OBBBA’s enactment will not include Section 174A at all, instead remaining under the prior law until the state updates its conformity date. It is possible the last conforming date is even before the passage of TCJA back in 2017, for example, the state of Texas has not updated conformity since July of 2007’s version of the IRC. Additionally, some states have unique rules, such as automatic decoupling triggers or selective carve-outs, that affect whether the new federal R&E expensing is recognized. The result is a patchwork of state treatments, requiring careful analysis for multistate businesses.
States’ reactions to the restoration of 100% expensing for domestic R&E are varied and evolving. Many rolling conformity states have faced a tough choice: conform to the taxpayer-friendly federal change, which benefits local businesses’ cash flow, or decouple from it to protect the state’s revenue base. The challenge is especially acute for rolling states because without action they automatically lose revenue due to the broader deductions outside of just Section 174 changes. In 2025, several states like Michigan and Pennsylvania took action through legislation or guidance.
Plan Ahead: Navigating a Shifting Patchwork
In some states, R&E costs will be deductible in full, while in others they must be amortized or added back, and a few states have decoupling quirks that might not be immediately obvious. This lack of uniformity is expected to be a recurring friction point during the upcoming filing season, as taxpayers and preparers must keep track of which states have conformed, decoupled, or are in legislative limbo.
It is essential to verify each state’s conformity status regarding OBBBA prior to filing tax returns, as guidance and legislation continue to evolve, occasionally with retroactive effect. A number of states experiencing substantial revenue challenges have signaled that they might further decouple in order to protect their income, particularly if economic conditions become more restrictive. Conversely, as 2026 approaches, it is likely that more states will revise their conformity to incorporate the OBBBA amendments once their budgets stabilize, ultimately leading to greater certainty over time. For now, ongoing vigilance and strategic planning remain essential. The current situation could significantly impact state-level taxes owed: if a state disallows immediate R&D deductions, this may result in higher state taxable income, potentially increasing estimated tax payment obligations or influencing deferred tax accounting.
Extra diligence will go a long way
Given the complexity and rapid developments in state conformity, companies should proactively plan for R&E expense treatment on their upcoming state returns. This is not a “set it and forget it” situation, you’ll want to model the impact in each significant state and be prepared for adjustments. Most importantly, don’t go it alone. Reach out to a Section 41 and Section 174 tax expert or state tax advisor before filing state returns that include R&E expenses. An experienced professional can help you confirm the latest rules in each state, identify opportunities, such as state R&D credits or incentives that might offset the loss of an adjustment, and ensure compliance with the varying conformity requirements. By consulting an expert and staying abreast of state guidance, you can avoid surprises, remain in full compliance, and maximize the available tax benefits for your company’s innovation investments. In this time of changing laws, a little extra diligence will go a long way in protecting your bottom line and positioning your business to benefit wherever states do conform to the new, favorable R&D expensing rules.