A recent Supreme Court decision, Trustpower Limited v Commissioner of Inland Revenue (IRD), has drastically changed how New Zealand businesses should treat feasibility expenditure for tax purposes.
Feasibility expenditure is a term used to refer to expenses incurred in the course of determining whether to acquire an asset; to some degree, such expenditure is incurred by all businesses. Until now, feasibility expenditure has generally been treated as tax deductible up until the point that a decision is made to acquire a particular asset. This is known as the ‘commitment approach’.
In the Trustpower case, the company had incurred expenditure to acquire resource consents prior to deciding whether to commit to potential power generation projects. The expenditure was treated as deductible feasibility expenditure under the commitment approach, however this was disregarded by the Court.
Instead, the expenditure was held to be non-deductible on the basis that the underlying projects were capital in nature. The Court reasoned that the projects could not proceed without the resource consents and thus represented tangible progress toward their completion.
The Supreme Court conceded that a deduction for feasibility expenditure may still be allowed for early stage work, but only limited guidance was provided regarding when expenses should be deductible. It was acknowledged that a deduction would be allowed for:
- “feasibility assessments which are so preliminary in nature that they cannot sensibly be seen as directed to the acquisition of an asset of an enduring character”;
- “…early stage feasibility assessments may be deductible. Such assessments can be seen as a normal incident of business”;
- “Expenditure which is not directed towards a specific project or which is so preliminary as not to be directed towards the advancement of such a project …”
The decision of the Supreme Court was contrary to IRD’s own Interpretation Statement on feasibility expenditure, hence IRD is now updating its statement. The draft statement has summarised the IRD’s interpretation of the case:
“… in the Commissioner’s view, expenditure is likely to be deductible in accordance with the Supreme Court decision if it is a normal incident of the taxpayer’s business and it satisfies one of the following:
- the expenditure is not directed towards a specific capital project; or
- the expenditure is so preliminary as not to be directed towards materially advancing a specific capital project – or, put another way, the expenditure is not directed towards making tangible progress on a specific capital project.”
Business expansion and growth is good for the economy, the country, employers and employees.
As a result of the Supreme Court decision, expenditure on feasibility expenditure is now more likely to be non-deductible in most cases. This creates an economic disincentive for businesses to consider the feasibility of new projects and will represent a significant increase to the cost of expansion and growth for New Zealand businesses.
From a broader policy perspective, it does beg the question as to whether Government should step in and legislate the treatment of feasibility expenditure to maintain the status quo.