Green and red flags for management expense deductions

This lack of legislative clarity has triggered several tax disputes where taxpayers and Revenue have disagreed about what expenditure constitutes expenses of management and qualifies for a tax deduction.

The taxpayer in the recent TAC appeal claimed as expenses of management expenditure relating to:

• insurance premia for director and officer liability, fiduciary liability and excess casualty insurance (insurance premia);

• a potential spin-off of the business;

• employment practices liability insurance;

• administering a tax-sharing agreement;

• SEC filing fees on the issue of shares in a new company; and

• employee retention payments.

Revenue contended that the expenses were not expenses of management deductible under Section 83 TCA. The TAC raised a green flag on the expenses of insurance premia, administering the tax-sharing agreement and employee retention payments by finding that they were incurred in the ordinary course of managing the appellant’s investment business and therefore qualified as expenses of management deductible under Section 83 TCA. However, the TAC raised a red flag on the expenses relating to the potential spin-off, employment practices liability insurance and SEC filing fees. The TAC held that the costs related to the potential spin-off had become specific (i.e. related to a particular investment), and expenditure from that particular date could not be severed from the proposed separation. The TAC further held that the SEC filing fees and employment practices liability insurance costs did not relate to the management by the appellant of its investments, and these were not deductible as expenses of management.

In arriving at his decision, the Appeal Commissioner analysed whether the expenses in question related to the management by the appellant of its investment business and allowed the deduction of expenses that were incurred in the ordinary course of managing the business. The TAC appears to have taken a broad view of what this could encompass. Each category of expenditure was considered separately in light of the relevant oral and documentary evidence given before the relevant legal test was applied.

Expenses of management versus expenses by management

In reaching its conclusion, the TAC took the position that the primary test to be applied in considering whether the various items of expenditure were expenses of management was that identified by the High Court and Supreme Court in Hibernian Insurance Co. vs Mac Uimis (Inspector of Taxes).

The Supreme Court in Hibernian considered at length the judgments of the House of Lords in Sun Life Assurance vs Davidson, which held that the phrase “expenses of management” did not have a technical or special meaning; they were ordinary words whose application should be determined based on a broad view of all relevant matters. The Supreme Court further observed that there is a distinction between expenses of management and expenses by management. The Supreme Court concluded that expenses so closely linked to a purchase transaction “that they would naturally be considered as items in the total cost of a purchase” were not expenses of management.

The TAC observed that simply because a sum was spent by management did not mean that it was a proper deduction. It had to be an expense of management of the investments concerned, and the Supreme Court ruling in Hibernia distinguished between the management of existing investments and the disposal of an investment or the acquisition of a new investment.

The UK approach

The courts of England and Wales have given several decisions on the meaning of expenses of management that qualify for tax deduction. For instance, the Court of Appeal in November 2022 issued a decision in HMRC v Centrica Overseas Holding Ltd, holding that while deal costs and expenditure associated with the disposal of the assets of a business were expenses of management, they were capital in nature and therefore not deductible for tax purposes. The Court of Appeal’s conclusion was based on Section 1219(3) of the UK Corporation Tax Act 2010 (CTA), which expressly excludes capital expenditure from deduction as expenses of management. The Centrica dispute rumbles on as the parties have appealed that decision to the Supreme Court.

Section 83 TCA does not expressly forbid the deduction of capital expenditure as expenses of management. However, in Hibernian, the Supreme Court held that capital expenses were not deductible as expenses of management despite the lack of an express provision for such exclusion. Accordingly, any analysis of what constitutes deductible expenses of management will necessarily require careful consideration of whether the expenses are capital in nature, and thus non-deductible, based on the facts of the particular case.

Insights

Decisions from various cases have provided guidance on the meaning of expenses of management. Here are some of the fundamental principles that have emerged from case law:

1. Expenditure incurred in managing the underlying investments of the company are expenses of management.

2. Expenses can be deductible expenses of management even where they have a duality of purpose, as there is no “wholly and exclusively” requirement within Section 83 TCA.

3. An activity that is part of the decision-making process on whether or not to acquire or dispose of an investment does not cease to be an expense of management merely because it also assists in the acquisition/disposal where that is decided upon. 

4. Once a decision has been reached to acquire or dispose of an asset, any costs incurred in implementing that decision will not be expenses of management, regardless of whether the acquisition or disposal proceeds or not.

5. Capital expenditure, which could be regarded as an expense of management, will not qualify for a deduction under Section 83 TCA based on Hibernia and the recent Centrica case in the UK. Capital expenditure would include the following:

   1. Costs that enhance or add to the value of an investment business’s capital would be capital expenses and would not qualify for deduction as expenses of management.

   2. Expenditure incurred to bring an asset or advantage into existence for the enduring benefit of trade would be considered capital expenditure and would also not qualify for deduction as expenses of management.

We are here to help you

The deductibility of expenses of management is a contentious issue and taxpayers should ensure that only qualifying expenses are claimed against taxable profits to avoid triggering tax disputes. Taxpayers should also consult professional tax advisors in cases of uncertainty to ensure that all qualifying expenses are properly claimed. We can help you in that process—contact us today.