ATO ID 2006/218: Are prepaid audit fees 'excluded expenditure'?
Date of decision: 27 July 2006
Year of income: Year ended 30 June 2006
Business line: Public Groups and International

Issue
Are the prepaid fees that are incurred by a company for the audit of its financial reports, an amount of expenditure required to be incurred by a law of the Commonwealth, a State or a Territory and therefore 'excluded expenditure' for the purposes of the prepayment rules in the Income Tax Assessment Act 1936 (ITAA 1936)?

Decision
No. Audit fees incurred by a company are not 'excluded expenditure'. Although section 301 of the Corporations Act 2001 requires that a public company must have its financial reports for a financial year audited, there is no provision in the Corporations Act (or in any other Act of the Commonwealth, a State or a Territory) which specifies an amount that must be charged for the audit. Accordingly, the prepaid fees are not required to be incurred by a law of the Commonwealth, a State or a Territory.

Facts
The taxpayer is a public company listed on the Australian Stock Exchange. It is neither a small business nor a simplified tax system (STS) taxpayer. In accordance with section 301 of the Corporations Act the taxpayer is required to have its financial reports audited each financial year. On 1 June 2006 the taxpayer contracts with an accounting firm to provide audit services for the following 12 months. Under the terms of the contract the taxpayer is required to prepay the full audit fee of $10,000.

Reasons for decision
Summary: A prepaid expense is expenditure incurred in one year for things to be done (in whole or in part) in a later year of income. The prepayment rules contained in Subdivision H of Division 3 of Part III of the ITAA 1936 affect the timing of deductions for prepaid expenditure. Certain types of expenditure are excluded from the prepayment rules. In so far as is relevant for present purposes subsection 82KZL(1) of the ITAA 1936 defines 'excluded expenditure' to mean an amount of expenditure 'required to be incurred by a law, or by an order of a court, of the Commonwealth, a State or a Territory'. The phrase is intended to cover statutory fees and charges that are incurred by taxpayers such as car registration fees. Although the taxpayer is required by the Corporations Act to have its financial statements audited these fees are not statutory fees or charges. There is no statutory provision that specifies an amount that the taxpayer must be charged for the audit of its accounts. Nor are the fees paid to a Governmental body. Accordingly, the prepaid audit fees are not 'excluded expenditure' and the taxpayer will not be entitled to an immediate deduction for those fees in the 2005-06 income year when they were incurred. Instead the taxpayer will be required to apportion the deduction for the expenditure over the period in which the services are provided in accordance with the rules contained in Subdivision H of Division 3 of Part III of the ITAA 1936.

Legislative references: Income Tax Assessment Act 1936 subsection 82KZL(1)
Related public rulings and determinations: Income Tax Ruling IT 2625
Subject references: Advance expenses & payments