A Lesson Context

To calculate Taxable Income, you take Gross Income and subtract Exempt Income (to get Income), and then subtract Allowable Deductions.

This lesson focuses on the General Deduction Formula, which acts as the gateway for most business expenses. If an expense passes the tests here, it is deductible.

B Legislative Framework

C The Key Tests

1. Actually Incurred

The expense implies a legal liability to pay. It does not mean "actually paid". If you receive an invoice in December 2024 but pay it in January 2025, the expense was "incurred" in 2024 because the legal obligation arose then.

Provisions for future expenses (e.g., "Provision for bad debts") are NOT incurred and thus NOT deductible.

2. Production of Income

There must be a nexus (link) between the expense and the income. The expense must be a necessary part of the income-earning operations.

3. Not of a Capital Nature

If an expense is capital (like buying a building or machine), it is disallowed under this section (but may get Capital Allowances).

D Capital vs Revenue (Brief Recap)

Remember the tree vs fruit analogy. Expenses to acquire or improve the tree (income source) are Capital. Expenses to produce the fruit (income) or maintain the tree are Revenue.

Example: Buying a delivery truck (Capital - No deduction, but wear & tear allowed). Buying fuel for the truck (Revenue - Fully deductible).

E Prohibited Deductions (Section 16)

Even if an expense meets the general formula, Section 16 specifically forbids certain deductions:

• Domestic/Private Expenses: Cost of commuting to work, groceries, home rent.
• Tax Payments: Income tax, interest on tax, and civil penalties are rarely deductible.
• Entertainment: Client lunches, golf days, and hospitality are strictly prohibited.
• Lease of Passenger Motor Vehicles: Capped (excessive lease costs for luxury cars are disallowed).
• Restraint of Trade Payments: Payment to stop someone competing with you is Capital.

F Repairs vs Improvements

Section 15(2)(b) allows deductions for repairs to property used for trade.

• Repair (Deductible): Restoring an asset to its original condition. (e.g., Fixing a broken window, patching a roof).
• Improvement (Capital - Not Deductible): Creating a new asset or enhancing it beyond original capacity. (e.g., Adding a new wing to a building, replacing a wooden floor with marble).

G Pre-Trading Expenses (Section 15(2)(zz))

Historically, expenses incurred before trade commenced were lost. Now, legislation allows Pre-Trading Expenditure to be deducted in the year trade commences.

Condition: The expense must be one that would have been deductible had trade already started (e.g., rent, salaries, marketing incurred before opening doors). Capital expenditure (buying machines before opening) remains Capital.

H Knowledge Check

Attempt these before checking the answers below.

I Quiz Answers & Explanations

J Key Takeaways