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Abbreviations are defined at the end.
On September 18, 2025, the FASB issued ASU 2025-06, Intangibles—Goodwill and Other—Internal-Use Software (Subtopic 350-40): Targeted Improvements to the Accounting for Internal-Use Software, marking a significant modernization of software cost accounting under U.S. GAAP.
This new guidance replaces the decades-old, stage-based framework with a principles-based approach that better reflects how software is developed today—through iterative and agile methods rather than the traditional linear “waterfall” model. The ASU is designed to enhance consistency, reduce complexity, and align accounting with current technology and business realities. The new standard does not change the types of costs that are capitalized once the threshold for capitalization is met or when capitalization ceases.
Under the previous model, entities classified internal-use software development into three project stages—preliminary, application development, and post-implementation—with capitalization typically beginning in the second stage. However, that structure often failed to fit modern software development, which is inherently non-sequential and involves continual refinement.
ASU 2025-06 eliminates all references to project stages, replacing them with a more flexible “probable-to-complete recognition threshold”. According to the standard, capitalization of internal-use software costs now begins only when:
By removing rigid stage-based terminology, the new guidance accommodates various development approaches — whether agile, hybrid, or traditional — and allows for a more uniform interpretation across industries.
The probable-to-complete concept is the cornerstone of the updated standard. The standard defines “probable” as likely to occur. To meet this threshold, entities must first resolve any significant development uncertainty, defined as either:
Once these uncertainties are resolved, eligible costs can be capitalized. This approach increases reliance on professional judgment but facilitates a consistent link between cost capitalization and the technical feasibility of the software being developed.
The FASB also noted that for cloud computing or SaaS-related projects, the new rules may reduce capitalization since uncertainty often remains later in development, making these costs more likely to be expensed as incurred.
In addition to redefining capitalization thresholds, ASU 2025-06 introduces new disclosure requirements to enhance transparency. Entities must now apply the disclosure framework of ASC 360-10 (Property, Plant, and Equipment) to all internal-use software costs, regardless of whether they are presented as intangible assets or within PP&E.
The update also supersedes ASC 350-50, which previously provided separate guidance for website development costs. That content is now incorporated into ASC 350-40, along with illustrative examples. The change is not expected to significantly alter practice, as website development is already conceptually similar to software application development.
This consolidation simplifies the Codification in that all internal-use software, including websites, now follows a single accounting model.
The move to a judgment-based approach increases the importance of internal controls around capitalization assessments. Management must establish and document:
Entities may need to update policies, processes, and documentation controls to align with the new probable-to-complete framework. Clear evidence supporting these judgments will be critical for auditability and compliance.
The new standard is effective for fiscal years beginning after December 15, 2027, including interim periods within those years. Early adoption is permitted for any interim or annual financial statements not yet issued (or made available for issuance), provided the standard is adopted as of the beginning of the fiscal year.
Entities have three transition options:
Each method requires disclosure of the transition approach and the impact on financial statements under ASC 250.
ASU 2025-06 represents one of the most significant updates to internal-use software cost accounting in nearly three decades. By replacing the outdated stage-based model with a modern, principle-driven framework, the FASB has aligned accounting standards with the realities of today’s fast-paced, agile software development environment.
While the update provides greater flexibility, it also demands greater judgment, transparency, and internal control discipline. Entities should begin evaluating their capitalization policies, internal documentation, and software development processes well before the 2027 effective date to ensure a seamless transition.
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