Specific Deductions - Summary Taxation Law PDF

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SPECIFIC DEDUCTIONS Specific deductions under s 8-5 •

Under s 8-5 a specific deduction is a loss of outgoing for which the ITAA specifically allows a deduction. These include: o S 25-5 – Tax-related expenses; o S 25-10 – Repairs; o S 25-20 – Lease document expenses; o S 25-25 – Borrowing expenses; o S 25-30 – Discharge of mortgage expenses; o S 25-35 – Bad debts; o S 25-45 – Loss through theft or embezzlement by employees; o S 25-55 – Subscriptions to associations; o S 25-60 – Election expenses – Federal and State government; o S 25-65 – Election expenses – Local Government ($1,000 maximum); o S 26-35 – Excessive payments to related entities; o Division 30 – Gifts and donations; o Subdivision 290-B and Subdivision 290-C – Superannuation contributions by employers, employees, and self-employed taxpayers; o S 40-25 – Decline in value; o S 40-645 to 40-665 – Mains electricity connections.

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S 25-5 allows a deduction for expenditure incurred in connection with the administration or management of a taxpayer’s income tax affairs. These include: o Tax agent’s fees; o Fees for advice on tax matters; o Costs of preparing and lodging objections; o Cost of providing the commissioner with information; o Payment of interest in relation to late and/or under-payments of tax such as the general interest charge and shortfall interest charge.

Tax related expenses

Repairs Under s 25-10 expenditure incurred by a taxpayer for repairs, not being of a capital nature, to any premises, plant, tools, machinery, etc. used or held to produce assessable income are deductible. • Ordinary meaning of “repairs” (TR 97/23) – remedying or making good of defects in, damage to or deterioration of, property to be repaired and contemplated the continued existence of the property. Key question: Does it remedy or make good of a defect in, damage to or deterioration of, property to be repaired. • The item must need restoration. Case J47 (1958) Facts: Council wanted 6 inches taken off an overhanging awning. Taxpayer claimed it as an expense but it was disallowed on basis that there was nothing wrong with the awning. Held: It was not allowable as it was not a repair. • Repair for the most part is occasional and partial (TR 97/23). o Property is more likely to be an entirety if: ▪ The property is separately identifiable as a principal item of capital equipment; •

▪ The thing or structure is a ‘unit of property’. o Property is more likely to be a subsidiary part if: ▪ It is an integral part of some larger item of plant; ▪ The property is physically, commercially and functionally an inseparable part of something else. o Examples of property that constitute an entirety: ▪ A slipway on the business site of a slip proprietor and ship repairer (Lindsay case); ▪ A grandstand in a football stadium (Burnley FC case); ▪ A bridge giving access to the driveway of a garage (Case B21 (1951)); ▪ A factor drainage system comprising an underground system of concrete storm water drains (Case G5 (1955)); o Examples of property that constitutes a part: ▪ The insulation and lining for a cool room (Case T14 (1968)); ▪ A window in a factory (even though the window is totally restored). ▪ Something that is part of a building, e.g. a roof or wall. • It involves restoration of the efficiency of function of the property being repaired without changing its character and may include restoration to its former appearance, form, state or condition. • A minor and incidental degree of improvement, addition or alteration may be done to property and still be a repair. If the work amounts to a substantial improvement, addition or alteration, it is not a repair and is not deductible under s 25-10. o A “repair” restores the efficiency of the function of the property without changing its character. o An “improvement” provides greater efficiency of function in the property; in involves bringing a thing or structure into a more valuable or desirable form, state of condition than a mere repair would. Western Suburbs Cinemas case Facts: The taxpayer replaced its existing tin roof with new fibro sheeting roof. It is proven that the fibro will reduce the likelihood of repair bills in the future. Held: The court denied the deduction, as it was an improvement to the roof, capital in nature. • Initial repairs are of a capital nature and not deductible (TR 97/23) – expenditure that remedies some defect or damage to, or deterioration of, property is capital expenditure if the defect, damage or deterioration: a) Existed at the time of acquisition of the property; and b) Did not arise from the operations of the person who incurs the expenditure. • The initial repair expenditure incurred on a CGT asset after its acquisition is included in the fourth element of the relevant cost base of the asset (about capital expenditure to increase an asset’s value) under subsection 110-25(5) (cost base) or subsection 110-55(2) (reduced cost base) of the ITAA97: TD 98/19. Law Shipping Co v IRC (1924) Facts: The taxpayer bought a ship to sail around the world. However, before it could sail, it had to repair it so that it was in satisfactory condition and approved by the governing body. Held: Since the repair was warranted at the time of the purchase, it is included as the buying cost. Initial repairs are not tax deductible.

W Thomas & Co Case Facts: The taxpayer purchased a building, unware of the damage already existing on the building, and started his business in it. After a longer period of time, he had to take on extensive repair to the building. Held: The expense was not deductible as it was repair of initial damages, even though the taxpayer wasn’t aware of the damages to begin with. • No deduction for ‘notional’ repairs – i.e. a claim for a repair when you did not in fact repair the item but actually replaced of improved the item. FCT v Western Suburb Cinemas Ltd (1952) Facts: The taxpayer replaced its existing tin roof with new fibro sheeting roof. It is proven that the fibro will reduce the likelihood of repair bills in the future. Held: The court denied the deduction, as it was an improvement to the roof, capital in nature.

Lease Document Expenses •

S 25-50 allows a deduction for expenses incurred in the preparation, registration, stamping, etc. of lease documents in relation to income-producing property.

Borrowing expenses •

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S 25-25 makes expenses incurred in borrowing money to be used for producing income deductible as follows: o Expenses  $100 – immediate deduction. o Expenses > $100 – must be apportioned over the life of the loan, but to a maximum period of 5 years. Expenses incurred part-way through a year must be pro-rated. Borrowing expenses do not include interest expense which is deductible under s 81(1). Examples of borrowing expenses include: o Stamp duty charged on the mortgage; o Loan establishment or loan application fees; o Title search fees charged by the lender; o Costs (including solicitors’ fees) for preparing and filing mortgage documents; o Mortgage broker fees; o Fees for the valuation required for loan approval; o Lender’s mortgage insurance. Interest on the loan will not be included as this would be fully deductible under s 81 (ITAA97).

Mortgage discharge expenses •

S 25-30 allows a deduction for expenses incurred on the discharge of a mortgage provided the loan or property was used to produce assessable income.

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Under s 25-35 only actual bad debts written off are allowed as a deduction. Only the GST excluded amount will be included in assessable income. You can deduct a debt (or part of a debt) that you write off as bad in the income year if: a) It was included in your assessable income for the income year or for an earlier income year; or b) It is in respect of money that you lent in the ordinary course of your business of lending money.

Bad Debts

The following four conditions must be satisfied: 1. Debt must exist – Debt must not already be cancelled; Point v FCT (1970) Facts: The taxpayer entered ito a scheme of arrangement with a debtor in the course of which he formally released the debtor form the obligation to repay the debt. Subsequently, the debt was ‘written off’ in the taxpayer’s books. Held: The taxpayer was not able to claim a deduction because once the debt had been released under the scheme of arrangement, it was extinguished and ceased to exist, and there was then nothing to be written off and claimed as a bad debt deduction. 2. Debt must be bad – Go to collect debt and the debtor is no longer at that address, or debtor declared bankrupt; not just doubtful; 3. Debt must have returned assessable income at some point (Money lending exception) – Cash versus accruals; special rules apply if taxpayer is in the business of lending money; 4. Debt must be written off in writing somewhere in year of income that it is claimed. Notes: Special rules for Companies – similar to Losses (s 25-35(5) ITAA97).

Losses through theft or embezzlement • •

Losses through theft of embezzlement are deductible where made by an employee: s 25-45. A loss due to a robbery/theft by a non-employee is deductible under s 8-1(1).

Subscriptions •

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S 25-55 allows a deduction for payments of amounts for membership of a trade of business or professional association, including initial joining fees, up to a maximum of $42 for each association. This deduction is not limited to persons who actively exercise the trade, business or profession. It can be claimed by persons such as retired members. The excess is deductible under s 8-1(1). Union dues and periodical subscriptions to trade, business or professional associations are deductible under s 8-1(1) provided there is a direct nexus with the derivation of the taxpayer’s assessable income whether the taxpayer is an employee or engaged in business. Subscriptions to technical, trade, scientific, business or professional journals, newspapers, information services and magazines are deductible under s 8-1(1) provided the subscriptions relate to the derivation of the taxpayer’s assessable income.

Parliamentary Election Expenses •

S 25-60 allows a deduction for expenses incurred in seeking election to State to Federal government regardless of the candidate’s success or failure.

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S 25-65 allows a deduction of up to $1,000 maximum for expenses incurred in seeking election to local government.

Local Government Election Expenses Excessive Payments to Related Entities • •

S 26-35 restricts the amount deductible for payments made to related entities to an amount which the Commissioner considers reasonable. Examples of a related entity are a relative of the taxpayer, or a director or shareholder of a private company.

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For example, payment of wages by a business taxpayer to their spouse of other family member would be deductible only to the extent of what is reasonable. “Reasonable” is based upon factors such as the type of work performed, the hours worked, and award wages rates. The amount received from a related entity in excess of a reasonable amount is treated as non-assessable non-exempt income (NANE).

Gifts and Donations Deductions for gifts claimed by the donor. A donor can be an individual, company, trust or other type of taxpayer. • For gifts to be deductible, they must have all the following characteristics: o There is a transfer of money or property; o The transfer is made voluntarily; o The transfer arises by way of benefaction; o No material benefit is received by the donor. • Under Division 30-A, tax deductible gifts includes: o Gifts of money of $2 or more (maximum of $1,500 pa for gifts to political parties); o Trading stock; o Property valued at >$5,000; o Property purchased during the 12 months before the gift was made; and o Listed shares valued at $5,000 or less and acquired at lease 12 months before the gift was made to be deductible gift recipient. • Deductible gift recipients include: o Public hospitals; o Public benevolent institutions; o Public research funds; o Universities; o Political parties. • Examples of payments that are NOT deductible as gifts include: o Purchases of raffle or art union tickets; o Purchases of items such as chocolates and pens; o The cost of attending fundraising dinners, even if the cost exceeds the value of the dinner; o Membership fees; o Payments to school buildings funds as an alternative to an increase in school fees; o Payments where the person has an understanding with the recipient that the payments will be used to provide a benefit for the ‘donor’. • There is no deduction for testamentary contributions or gifts (i.e. contributions or gifts made under a will). • A deduction for a gift cannot add to or create a tax loss for the donor: s 26-55. TD 92/114 Income Tax: are membership subscriptions to political parties deductible under paragraph 78(1)(aaa)? Yes. Paragraph 78(1)(aaa) ITAA36 allows deductions for contributions to registered political parties within the meaning of the Commonwealth Electoral Act 1918. We consider the word ‘contributions’ included membership subscriptions paid to registered political parties. Deductibility of contributions is subject to the following provisos:

i. ii. iii.

iv. v. vi.

Contributions eligible for deduction are those made on or after 1 July 1991; Subsection 51(7A) limits the total amount deductible in any income year to $1,500; A contribution has to be of the value of $2 or more – if a contribution is made by way of property other than money, the taxpayer making the contribution must have purchased the property within the 12 months before making the contribution; A contribution cannot be a testamentary contribution; and A contributor cannot be a company. Membership subscriptions paid to registered political parties are contributions for the purposes of claiming a deduction.

Legal expenses Certain business-related legal expenses are specifically deductible. These are legal expenses associated with: o Borrowing money: s 25-25; o Discharging mortgages: s 25-30; o Preparation of leases: s 25-20; o Business related expenses: s 40-880. • Other legal expenses which do not fall under the above specific sections may be deductible if they fall within the requirements of s 8-1(1). • Legal expenses which are capital in nature are not deductible. • Examples of deductible legal expenses: o Legal costs of recovering book debts/collect debts; o Legal costs of defending business methods. • Examples of non-deductible legal expenses: o Legal expenses to draw up a partnership agreement o Legal costs incurred in attempting to eliminate or prevent competition; o Legal fees in connection with the purchase or establishment of a business or other capital asset for use in business. Magna Alloys & Research v FCT Facts: Police brought various criminal charges against Magna’s agents and directors. The taxpayer paid the legal expenses in defending the charges against the agents and directors. Held: Deductible. •

FCT v Snowden & Wilson Pty Ltd Facts: Sharp business practices? Lawyers hired to defend taxpayer before Royal Commission enquiry. Held: Deductible.

Superannuation Contributions •

Under s 280-10 superannuation contributions are deductible as follows: o Self-employed – since 1 July 2007 self-employed taxpayers under age 75 have been entitled to claim a full deduction for contributions they make into complying superannuation funds. ▪ To be eligible, less than 10% of their total assessable income must be derived from employment as an employee: s 290-60. ▪ Total income includes assessable income plus reportable fringe benefits.

o Employers are able to claim a full deduction for all superannuation contributions made to complying superannuation funds on behalf of eligible employees (i.e. employees aged under 75 years): s 290-60. o Employees can only deduct contributions they make in respect of themselves if less than 10% of their total assessable income (plus reportable fringe benefits) for the income year is attributable to employment or similar activities. ▪ To be eligible to claim a deduction for personal superannuation contributions, the taxpayer must lodge a Notice of Intent to Claim Deduction form with their superannuation fund before whichever of the following occurs first: • The date the tax return was lodged for the year the contributions were made, or • The end of the income year after the income year in which the contributions were made.

Mains electricity connections • •

A deduction is available for capital expenditure incurred in connection mains electricity to land on which a business is carried on or in upgrading an existing connection to such land: s 40-645 to s 40-665. The deduction is allowed in ten equal annual instalments.

Payments of Income tax •

Income tax payments (PAYG) are not deductible.

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Where a taxpayer carries on a business, the following tax payments are deductible under s 8-1(1): o Payroll tax; o Fringe benefits tax; o Land tax.

Payments of other taxes

Business Deductions Blackhole expenditure • •

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Certain types of business capital related to either commencing or ceasing a business are specifically made deductible by s 40-880 (blackhole expenditure). For Capital Expenditure to be deductible under s 40-880, it must be incurred in relation to: o The taxpayer’s current, pas or proposed business; or o The liquidation or deregistration of a company or winding up of a partnership or trustee of which the taxpayer was a member or beneficiary that carried on business. Both the business and the expenditure must relate to a taxable purpose and not be specifically excluded. S 40-880 is a provision of last resort. The main exclusions from s 40-880 ITAA97 are expenses that are: 1. Part of the cost of a depreciating asset. 2. Deductible under another provision. 3. Part of the cost of land or in relation to a lease. 4. Part of a profit or loss included in assessable income. 5. Part of a capital gain or capital loss calculation. Examples of business related capital costs expenditure include:

o Expenditure to raise equity for a business; o Cost of defending a business against a takeover; o Costs of starting a business (such as the cost of feasibility studies and setting up the business entity); o Costs of business restructuring; o Costs of ceasing a business (e.g. cost of liquidating or deregistering a company, or to wind up a trust that carried on a business).

Five-year write-off for business-related costs • • •

Under s 40-880, a deduction is allowed in equal proportions over five years, with 20% of the expenditure deductible in the income year in which it is incurred and the balance allocated equally to each of the next four income years. No daily calculation is necessary. 1 July 2005 onwards.

Small business start-up expenses immediately deductible •

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Commencing 01 July 2015, s 40-880 allows for certain start-up expenses, including costs associated with raising capital, to be immediately deductible where they are incurred by a small business entity. Expenses can be fully deductible in the year in which the expenditure is incurred if the expenditure relates to a small business that is proposed to be carried on and is either: o Incurred in obtaining advice or services relating to the proposed structure of the proposed operation of the business; o A payment to an Australian government agency of a fee, tax or charge incurred in relation to setting up the business or establishing its operating structure. Expenses can only be immediately claimed if the entity that incurred the expenditure is a small business entity for that income year.

Franchise fees and expenses •

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The initial franchise fee paid when buying a franchise, along with a...