Income Tax Malaysia General and Specific Deductions.docx

General and Specific Deductions ( lecture 4) General Deduction Formula:

Sec 33 (1) Adjusted Income = Gross Income – Deductible Expenses Deducting from the gross income of that person from that source for that period all outgoings and expenses wholly and exclusively incurred during that period by that person in the production of gross income from that source. Types Deduct expenses incurred for the production of income chargeable

Outgoings vs Expenses Expenses & Outgoing – Wholly and Exclusively

Explanation - The deduction expense must be incurred in the production of income chargeable to Malaysian income tax - Any income chargeable to M’sian tax on received basis, it is deductible against overseas sourced income and not Malaysian sourced income - Outgoings not need to be cash - Eg : samples given out in Marketing a product/ covers business loss due to theft – DEDUCTIBLE. - The expenses and outgoings must be wholly and exclusively incurred during the period for the production of gross income. Case: Bowden v Russell & Russell ( slide 5) -

Incurred ( paid, payable, becoming Payable)

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During that period

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In the production of gross Income

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Remarks

If there is exclusivity of purpose, the whole expenses will be deductible. Exclusivity purpose- does not matter if it benefits tax payer- DEDUCTIBLE Case : Robinson v Scott Bader – ( slide 6) Required is that liability must have been incurred during the tax payer concerned ( even though actual payments fall due later) Alliance Holdings Ltd v FC of T ( slide 7) An expenditure incurred in a prior tax year cannot form the subject of a deduction in the following tax year. Taxpayer can show that an expense was incurred for that purpose of producing gross income. Case Hughes v Bank of New Zealand ( slide 8) General relationship between expenditure and income earned must continue to exist. Sub Nigel Ltd v CIR – it does not necessarily mean that income must have been produced in the same year as the expense in order for deduction to be claimed / allowed Expenditure incurred for the purpose of producing is deductible, even in no income has been resulted – Liquidator bagi YF Development v KPHDN

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Protecting income earned Protecting source of Income

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Tax Appeal

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cases: Smith’s Potato Estates v Bolland – Cost of Tax appeal NOT DEDUCTIBE ( not in production of gross income)

Violating law expense

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CIR v Alexander – Expenses Violating the Law – NOT DEDUCTIBLE

AGM Expenses

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Syarikat KM Bhd v DGIR – AGM expenses – NOT DEDUCTIBLE

Compensation to dismiss employee

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Mitchelle v Noble – Compensation to dismiss the Employee – DEDUCTIBLE

Misappropriation of employees

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Eg : cashier Cheating , DEDUCTIBLE , hire such stuff for co’s production of income.

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Deduction for loss of cash/ cheques of theft, if received by insurance then taxable

Unapproved retirement fund

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Exxon Chemical ( M) Sdn BHd v KPHDN – contributions to unapproved retirement funds under a contractual obligation voluntarily undertaken by employer is DEDUCTIBLE.

Legal Fee on S&P Loan agreement

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MEH Sdn Bhd V KPHDN – Legal fee borne by t/p ( develop) to promote sale of its plots – DEDUCTIBLE

Professional Indemnity Insurance Policy

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All professional Indemnity insurance premiums are TAX DEDUCTIBLE

P.R.No 5/2006 + Sec 33 (1)

Legal and professional expenses

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Expenses incurred to maintain the existing trade rights/ facilities ( and not for the new acquisition ) are DEDUCTIBLE

P.R No.6/2006

Register Patents & trademarks

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Expenses incurred by SMEs to register patents & trademarks are DEDUCTIBLE

Para 2A & 2B Sch 1

Deductible Expenses

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Collection of trade debts, defending title to property , renewal of leases, defending ac action connected breach/trading of contract.

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Recovery of non-trade debts cost of raising additional capital, secretarial fees, AGM expenses, Tax appeal, defending criminal prosecution

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Statutory Audit Fees DEDUCTIBLE – so they will follow rules

Non-Deductible Expenses

Audit Fees

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Expenditure incurred protecting income already earned is NOT deductible Expenditure incurred for protection of source of income is DEDUCTIBLE.

P.R.No 5/2005

Income tax Rules 2006

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Capital ( not Deductible ) vs Revenue

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Post commencement cost of recruitment workers _ DEDUCTIBLE

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Contributions towards charitable/ community project ( edu, health , ICT) – DEDUCTIBLE

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Projects on conservation of environment and enhancement of income of the poor ) DEDUCTIBLE Expenditure must not be on capital items – Prohibited by Sec 39 (1) (c)

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Sec 34 (6) (h)

Certain factors to determine if its Capital, Not deductible

Fixed Capital v Circulating Capital

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Brings into existence ( to a trade) an asset or an advantage of enduring benefit

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This distinguish between fixed capital like plant and circulating capital like stock in trade.

Maintenance of Capital Asset is DEDUCTIBLE

Sec 33 (1) (c)

Capital expenditure is something spent only once and revenue is recurring Examples of Capital Expenditure ( non- deductible) -

Pre-commencement expenses Intial expenditure/ set up cost CIR v Granite City Steamship Co

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Expenses in establishing new components to business

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Legal expenses to protect taxpayer’s profit earning structure to eliminate competitors

Relocation

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Relocation of business expenses- related to profit making structure

Advertising

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If it gives enduring benefit, then capital ( NOT DEDUCTIBLE)

Brand Names

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Capital item becauses it is the tree from which taxpayer intends to earn fruit in future ( NOT DEDUCTIBLE)

Feasibility Study Costs

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NOT DEDUCTIBLE – set up cost, pre-operating costs

Sch 4 Exception

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Specific deductions Sec 33 (1) (a)- (d) : Sets out specific deductions can be made wholly and exclusively for production of gross income -

Sec 33 (1) (a) : Interest Expense Sec 33 (1) (b) : Rent Sec 33 (1) (c) : Repairs and Renewals Sec 33 (1) (d) : Other prescribed deductions ( made under sec.154)

Types Interest Expense Sec 33(1)(a)

To pay dividend

Interest Restriction

Explanation - Deduction from the gross income from a particular source, in order to determine the taxpayer’s adjusted income includes – - (a) Sec 33 (2) – any sum payable for that period by the way of INTEREST upon any money borrowed by that person AND i) Employed in that period in the production of gross income ( working capital) ii) Laid out on asset used or held in that period for production of gross income ( acquiring fixed asset) -

Interest expense is DEDUCTIBLE whether payable for acquiring capital asset or paying trade debts.

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Money borrowed must be connected to income earning operations- or NOT DEDUCTIBLE

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Borrowing it to pay Dividends – Interest payable – NOT DEDUCTIBLE

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Interest payable treated for the purpose separately each year

Remarks Sec 33(1)(a)

Interest restriction - Sec 33(1) (a) is subject to Sec 33 (2) -

If money is borrowed for use of TWO purpose: 1) Producing income ( Business purpose) - DEDUCTIBLE 2) Lend/Invest ( non-business purpose) - NOT DEDUCT

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Sec 33 (2)

Interest is apportioned between two components; the business purpose interest expense is allowed to be deducted. Not the other..

Exception to the restrictions : -

Interest which is restricted , can be calculated on monthly basis: (

) = Amount

of interest restricted

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Principles from Sec 33 (2): 1) Amount invested in greater than amount borrowed – NOT DEDUCTIBLE , any interest paid 2) There is no money lent or invested – whole interest – DEDUCTIBLE. 3) Amount of money invested less than money borrowed – monthly interest reduced, interest that invested money bears to the outstanding borrowed money.

4) Income is derived from invested money – prove DGIR the money borrowed was used to produce this income- then disallowed interest will be a deduction against the income from the invested money. EXAMPLE SLIDE 29. Loan to buy shares

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Loan taken to buy shares – then receive dividend out of that investment – interest expense is deductible against all that dividend income – KPHDN v MP Holdings S/B ( 2001)

Loan for investment allowable for

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Interest on loan =< RM 10,00 for cos & =< RM6,000 for ind/others , S33(2) won’t apply. Full deduction allowed against business income

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If loan exceeds (business income is disallowed) but the interest can be deducted against investment income.

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Loans to acquire property, - DEDUCTIBLE

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Rent payable- occupied by him for the purpose of producing income is DEDUCTIBLE.

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Note: Only deductible , when tax payer earn income from the rented property and not during the construction time. Prescribed deductions will be allowable Minister may prescribe under Sec 154

Loan for property Rent Sec 33 (1)(b)

Other prescribed Deductions Sec 33 (1) (d) Repairs & Repairs Sec 33 (1) (c)

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It covers two types of expenses: 1) Expenses incurred on the repair of premises- employed in the production of gross income 2) Expenses incurred in the ren 3) ewal, repair or alteration- employed in producing gross income.

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Note: 1) Repairs involved replacement of certain part, not entire item 2) Initial repair – capital – NOT DEDUCTIBLE 3) Repairs to improve efficiency – NOT DEDUCTIBLE 4) T/p has a right to fall back on general rule in Sec 33- if it fails to bring case within Sec 33 (1) (c).

Sec 33 (1) (b)

Sec 33(1)(d)

Sec 33 (1) (c)

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Entirety Rule 1) Entirety Rule O Grandy v Bullcroft Main Colleries Ltd / Samuel Jones & Co Devondale) Ltd v CIR – Built an chimney, after years demolished and built a new one – it was held it is a capital expenditure as the whole chimney is replaced. Replacement is entirety CIT v Rubber Co. Ltd - Malaysian case, follow Samuel – Rubber estate built a new gate, the replacement was held no improvement, but the same one for the same function- it was held as income expenditure and not capital expenditure. Phillips v Whieldon Sanitary Potteries- After flood, replace existing embankment (higher and stronger) held as capital expenditure. Note for renewals : - Applied to expenditure on replacement -

Cost of original and later additions – capital payment – NOT Deductible

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Renewal does not apply for renewing plant or machinery which forms a class on which capital allowances

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Does not apply to the cost if reconstruction or rebuilding of any premises, building, structure or works of a permanent nature

Sec 33(1)(c)(ii) Sec 33(1)(c)(i)

Initial Repairs 2)Initial Repairs -

Initial repairs are necessary because state of asset when purchased – Capital – NOT DEDUCTIBLE

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Defect arising from income earning operations – DEDUCTIBLE

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Case : Odeon Associated Theatres v Jones – repairs must not represent improvements, additions or alterations.

Improvement 3)Improvements -

Repairs/ renewal involves improvement – Capital – Not Deductible.

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Test: New asset, create resulting, taxpayer’s income earning capacity- work undertaken is merely cost to restore asset, continue income as before : Morcom V Campbell-Johnson

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Note :

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Restoration efficiency- material used not necessary that materials used should be identical- W Thomas & Co Pty Ltd v 6

FCT -

Cannot apportion cost of improvements and claim for notional repairs- Curtin V M Ltd

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Large amount of repair and improvement, DGIR allows apportionment, as long the cost for each are set out clearly. – Conn v Robins Bros

Special Business Deductions ( Sec 34, 34A, 34B & Sch 4B – only Business) Types Non-Capital Expenditure ( Deduction) Employer’s Contribution to approved scheme ( EPH/ Pension) DEDUCTIBLE Bad and Doubtful Debts

Explanation - Allows deduction from gross income on expenditure in scientific research related to business but the expenditure should not be capital in nature eg: plant machinery DEDUCTILE - Deduction cannot exceed 19% of employee’s remuneration

Remarks Sec 34 (7)

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Any special contribution by way of initial sum to DGIR, application to DGIR

Sec 34 (5)

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Scholarships given to public university students is a deduction to Company to arrive at adjusted income Allow deduction for any debt which is reasonably estimated on all the circumstances of the case to be wholly / partly irrecoverable at the end of the period

Sec 34 (6)

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Sec 34 (4)

Sec 34 (2)

Note : - The amount written off must be trade debt – X v CIT - The amount written off must be included in previous gross income – carrying money lending business - The business must be an existing business - The amount written off must be irrecoverable. – Anderton & Halstead Ltd v Birrell - It must become irrecoverable in basis period - Only part of debt is irrecoverable and must be reasonably estimated. - Irrecoverability must be proven to DGIR - Provision of bad debts is not Allowable Recovery of Bad Debts

Recovery of trade debts previously written off as bad or doubtful are taxable as trading receipts in the year of recovery

Sec 30 (1)

A person acquires a business, debts in it is capital and cannot claim bad debts or recovery also can’t be taxed – Reynolds & Gibson v Crompton Non-trade Debt

Non-trade debts written off are NOT DEDUCTIBLE nor TAXABLE

P.R. No.1 /2002

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Sec 34A

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Double Deduction for scientific research expenditure pertaining to the business Special Deduction for Contribution to an approved research

Sec 34 B 7

institute Double Deductions Types Interest on Loans to a Small Business Employment of Disabled Employees Insurance Premium for Import of Cargo

Explanation - Interest payable on loans to small business must full fill two conditions 1) The employer is required to produce a certificate of approval 2) Interest must be permitted under Sec 33 - Remuneration for employees who are physically and mentally disabled - Income Tax ( Deduction for the Employment of Disabled Person) Rules 1982 - Insurance premiums paid for the import of cargo insured with any insurance company incorporated in M’sia.

Training of Handicapped Persons

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Expenses incurred on the training of any handicapped person Registered with the Ministry of National Unity

Export Credit Insurance Premiums

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Premiums payments in respect of export credit insurance insured with the Malaysian Export Credit Insurance Bhd.

Freight Charges

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Research Expenditure

Overseas Expenses for Promotion of Tourism

Freight charges incurred by all manufacturers, shipment of good from Sabah and Sarawak , double deductions. - Rattan and wood , freight charges are given DD - Revenue expenditure: 1) Approved by Ministry of Finance 2) Undertaken by a person in approved industrial adjustment - Overseas expenses incurred by hotel and tour operations for promoting tourism is DD

Expenditure for Approved Training

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See page 402

Expenses Incurred in International Trade fairs

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See page 402

Fees incurred in Packaging Design

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Expenditure on Advertising Malaysian branded Products

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Professional fees incurred in packaging design will qualify provided that such goods are of export quality and the company engages local professional services. Expenditure on foreign advertisement of Malaysian branded products now includes local advertising of Malaysian branded product. Registered in Malaysia and be of export quality Advertising expenses must be of the type allowable under Sec 33 Expenses on professional fees paid to companies promoting Malaysian Brand Names

Expenses on Promoting brand Names Expenses Incurred to Promote Export of Services

Expenses for

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Every Resident Malaysian Company eligible for this DD:

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Expenses incurred in respect of market research for export service Cost of tender preparations Expenses fares for travel behalf of Malaysia : RM 300 per day for accommodation See page 403-404 Product export must be those which qualify for an export allowance or

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Promotions of Exports Export for promotion of Higher Education Expenditure Incurred in Employing Unemployed Graduates Employment of Retrenched Workers Promoting Malaysia as an International Islamic Financial

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abatement The company must be Malaysian Resident Same as promotion export of service

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Page 405

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DD is restricted to RM 10,000 per worker per month for a maximum of 12 months from first month of employment Page 405

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Special Incentives Relief Sec 133 A Sch 7A & 7B – ( to promote certain sectors of the economy) – page 451 Eg : Plant and Machinery qualifying for accelerated Depreciation Allowance Spefically Non_ Deductible Expenses SEC 39 (1) – CANNOT BE DEDUCTED FROM GROSS INCOME Section Sec 39 (1) (a) Sec 39 (1) (b) Sec 39 (1) (c)

Sec 39 (1) (l) Entertainment

Explanation Domestic and Private Expenses – partly for production of income and partly personal- Full amount NOT DEDUCTIBLE. Any disbursement or expenses not being money wholly and exclusively laid out for the producing gross income Any sum withdrawn as employed for capital – Principal debt is NOT DEDUCTIBLE only interest portion is DEDUCTIBLE – S 33 (1) (a) 50% of any expenses incurred in the provision of entertainment including any sums to an employee of that person for the purpose of defraying expenses incurred by that employee in the provision entertainment. But this does not apply to ( Thus fully deductible) :i) the provision of entertainment to employees provided not incidental to the provision of entertainment to others ii) Is t/p business consist of providing entertainment to paying clients / customers, cost of providing the entertainment in the ordinary course of business is DEDUCTIBLE. iii) the provision of promotional gifts at trade fairs or trade/ industrial exhibition held outside M’sia for promotion of export of Malaysia iv) cost of providing promotional samples of products of t/p’s business is DEDUCTIBLE v) the provision of entertainment for cultural and sporting events open to public members , wholly to promote the business of the person. 9

Sec 39(1)(m)

Vi) the provision of promotional gifts ( products t.p produce) within Malaysia consisting logo and advertisement of the business Any expenditure in providing a benefit of leave passage is NOT DEDUCTIBLE

Leave passage

To be deductible it must come under Sec 33 (1) and not be disallowed by Sec 39 ..

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