FASB Modernizes Internal-Use Software Accounting with ASU 2025-06

In September 2025, the Financial Accounting Standards Board (FASB) released a new Accounting Standards Update ASU 2025-06, Intangible–Goodwill and Other–Internal-Use Software (Subtopic 350-40): Targeted Improvements to the Accounting for Internal-Use Software. This is more than a technical update; it’s a core change for any insurance, nonprofit, or related organization that develops internal-use software. The guidance simplifies previous rules and better reflects modern internal software development practices.

The guidance replaces the previous three-stage framework and establishes a principles-based, flexible approach to determine when to capitalize costs pertaining to software development, making the capitalization process more straightforward, logical, and simple. 

Core Elements of the Guidance

Internal-Use Software Capitalization

The most noteworthy modification in ASU 2025-06 is the elimination of the three project stages (preliminary project, application development, and post-implementation/operation). These stages were emphasized in the previous accounting treatment. The FASB’s revision is indifferent to the developmental processes and procedures, making it more useful and applicable to modern software development practices.

Under the guidance, an entity can begin capitalizing internal-use software costs when both of the following criteria are met: 

• Authorization and funding: Management, with the relevant authority, has authorized and committed to funding the software project, and
• Probable-to-complete: It is probable that the project will be completed and the software will be used to perform its intended function.

Instead of attempting to force developmental steps into pre-determined categories and a linear model, this change allows for a judgement based approach using facts and circumstances, understanding that software is often developed using an agile or iterative approach that doesn’t fit neatly into a linear model. 

The update also addresses the accounting treatment for software upgrades and enhancements. Companies should continue to capitalize any costs that add significant new functionality, but should also apply the new criteria mentioned above regarding authorization, funding, and probable completion. 

Software with Significant Development Uncertainty

Capitalization is temporarily prohibited for software deemed to have significant development uncertainty, a new concept in the guidance. When a significant development uncertainty exists the “probable completion” threshold is not met. This uncertainty is characterized by either of the following criteria:

• The software includes “novel, unique, or unproven functions or features,” and the uncertainty has not been resolved through coding and testing, or
• The significant performance requirements have not been identified or the significant performance requirements continue to be substantially revised. 

When the uncertainty is resolved, the project can be evaluated using the capitalization requirements identified above.

Website Development Costs

Separate guidance for website development costs is eliminated and merged into the internal-use software guidance in Topic 350-40. The capitalization framework emphasizing probable completion is used for all internal-use software, including website development.

Disclosure Requirements

The standard simplifies financial reporting by aligning the disclosure requirements for internal-use software with existing rules for property, plant, and equipment (PP&E). Furthermore, the intangible asset disclosures in paragraphs 350-30-50-1 through 50-3 are not required for internal-use software cost capitalization. The change is expected to ensure better consistency for financial statement users and reduce complexity for reporting entities.

Objectives and Key Impacts

The principles-based approach requires more management judgment, and may require changes to internal processes and controls to comply with the updated accounting standard. The ultimate outcome of the internal-use software revisions are to provide more consistent, decision-useful information to financial statement readers, while decreasing the cost and complexity of compliance for companies. 

Additionally, the introduction of software with significant development uncertainty more closely aligns the accounting for internal use software in Topic 350 with the accounting for software to be sold in Topic 985. The comparable term in Topic 985 is “technological feasibility.” While there are nuanced differences, the FASB expects accounting for these similar types of software will be more consistent, and may lead to less internal-use software capitalization.  

Auditors can add significant value during the adoption process by evaluating the design of new internal controls and providing an independent voice challenging management’s rationale for key assumptions, and ensuring management’s disclosures for internal-use software in the financial statements are complete and accurate under the guidance. 

Effective Date and Transition

The amendments are effective for annual reporting periods beginning after December 15, 2027, including interim periods. For financial statements that have not yet been issued, early adoption is permitted. The guidance provides entities the flexibility to apply any of the transitional methods available: a prospective, modified , or retrospective transition. Transition disclosures apply.

How Johnson Lambert Can Help

Johnson Lambert’s expertise ensures our clients and our teams are ready for this new era. We combine technical accounting knowledge with technology fluency and industry insight to effectively audit this new principles-based guidance. To learn more about Johnson Lambert’s insurance and nonprofit practices and our audit qualifications, please contact us.