In general, expenditure is deductible (as provided for in the Income Tax Act 2007) if it is:
- incurred in deriving assessable income (but not exempt income), or
- incurred in the course of carrying on a business for the purpose of deriving assessable income
The deductibility laws also incorporate the concept of apportionment (between business and private expenditure), given that these laws provide a deduction for expenditure or loss “to the extent” that it is incurred in deriving assessable income. The taxpayer must be able to point to some intelligible basis upon which the apportionment is made.
Deductible expenditure can be expected ultimately to involve the expenditure of funds. If this does not happen in due course (because for example, the passing of a subsequent credit against the expenditure) the “benefit” of the deduction of the original cost ultimately needs to be reversed (although not necessarily in the same tax year).
The trigger for deductibility is when the expenditure is incurred (generally meaning that the services or goods have been supplied and an obligation to pay for those services and goods has been created). Actual payment does not need to have been made at the time that a deduction is claimed.
Wage and salary earners are entitled to very few deductions (cost of preparing taxation returns and loss of income insurance premiums being among the few).
Expenditure is not deductible where it is capital in nature (for example, the purchase of a fixed asset) or private or domestic in nature (for example, purchase of a business suit). Apart from the provisions of the Act, there is there is a vast range of case law that has determined whether a given type of expenditure is either revenue in nature (and therefore likely to be immediately deductible for taxation purposes), capital in nature (and the extent to which it may then be subject to the depreciation regime, if at all), or private in nature. Unusual or questionable types of expenditure need to be determined for deductibility after due consideration of the Act and case law – it is not simply a question of taking a cavalier approach toward determining the deductibility of expenditure.
A low cost asset may be deducted in the year of acquisition. The threshold cost is $500 (being a GST-exclusive cost if the taxpayer is a registered person, and a GST-inclusive cost if the taxpayer is not so registered).
Some items of expenditure that might ordinarily be deductible as a business cost are subject to certain rules with respect to the timing of the effective deduction. Thus for example, the purchase of stock for resale is a deductible cost but to the extent that that stock is unsold at balance date the deduction cannot be taken in the year of purchase. Likewise, there are certain rules that govern the timing of the deduction of expenditure on consumables, annual insurance payments and such like (designed to limit the ability of the taxpayer to deduct costs incurred well ahead of the business consumption of the goods and services provided by those costs). Consideration needs to be made of such “unused” expenditure at the taxpayer’s balance date.