Private ruling: Business deductions for employee self-education expense
Date of advice: 29 August 2018
Published: October 2018
Ruling period: Income tax period of financial year ended 30 June 2018 | Income tax period of financial year ended 30 June 2019 | Fringe benefits tax period of year ended 31 March 2018 | Fringe benefits tax period of year ended 31 March 2019
Date scheme commenced: 9 August 2017

Ruling: Q1: Are you entitled to a deduction for the cost incurred for an employee’s pilot training and licence? | A1: Yes Issue 2 | Q2: Is the provision of the training course to obtain a pilot’s licence by the employer a fringe benefit under the Fringe Benefits Tax Assessment Act 1986 (FBTAA)? | A2: Yes | Q3: Will be the employer be able to reduce the taxable value of the fringe benefit to nil based on the application of the otherwise deductible rule? | A3: No

Relevant facts and circumstances: You, the employer, are a registered Australian company. Your services include management of projects located around your state. You have decided to reduce the time and cost spent on travelling via driving, including labour costs in time, vehicle operation costs and living away from home allowance, to the more remotely located sites by hiring a plane and flying to these project sites. You have incurred costs to train an employee, being the director and project manager, as a pilot to be able to fly to clients and deliver the onsite services required in a timely manner. These costs are paid by you but invoiced in the employee’s name.

Relevant legislative provisions: Income Tax Assessment Act 1997 Section 8-1 | Fringe Benefit Tax Assessment Act 1986 section 20 | Fringe Benefit Tax Assessment Act 1986 section 23 | Fringe Benefit Tax Assessment Act 1986 section 24 | Fringe Benefit Tax Assessment Act 1986 subsection 136(1)

Reasons for decision: Detailed Reasoning - Question 1: Section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997) allows a deduction for all losses and outgoings to the extent to which they are incurred in gaining or producing assessable income or are necessarily incurred in carrying on a business for the purpose of gaining or producing assessable income except where the outgoings are of a capital, private or domestic nature, or relate to the earning of exempt income, or a provision of the ITAA 1997 prevents it. In many cases the legitimate ends of a business will encompass what is in the personal interests of the directors and employees. The decision in Magna Alloys & Research Pty Ltd v FCT 80 ATC 4542; (1980) 11 ATR 276 ( Magna Alloys) shows the fact that the dominant motive in incurring an expense is to provide a benefit to the directors does not, itself, prevent the outgoing from being necessarily incurred in carrying on the taxpayer’s business. Expenditure incurred by a business on behalf of an employee such as training of employees in relevant areas is generally an allowable deduction. In this case you, the employer, paid for an employee to attend flying school with the object of obtaining a pilot’s licence. Although the employee will receive a personal benefit from this expenditure, the business stands to benefit by providing a more timely service to existing and new clients. That is, the company is paying for the training of an employee which will result in the derivation of increased income by the company. The licence provides the company with the ability to successfully operate its business in an enhanced manner. It is considered that there is the necessary connection between the expenditure and the assessable income of the company. As a result, it can be concluded that the outgoing is necessarily incurred in the carrying on of a business and, therefore, is deductible under section 8-1 of the ITAA 1997. | Summary: The company is entitled to a deduction for the cost of the flying lessons. However, the expenses relating to providing the flying lessons to obtain the pilot’s licence is considered a provision of a fringe benefit to the employee therefore the company will have a fringe benefits tax liability. As the employee would not be eligible to claim a deduction under section 8-1 of the ITAA 1997, the 'otherwise deductible' rule will not apply to reduce the taxable value of the expense payment benefit provided by the company. | Detailed Reasoning - Fringe benefits: The definition of a fringe benefit within subsection 136(1) of the Fringe Benefits Tax Assessment Act 1986 (FBTAA) provides that a fringe benefit will arise where the following circumstances exist: ● A benefit is provided to an employee, or an associate of an employee. ● The benefit is provided by an employer, or an associate of an employer, or by a third party under an arrangement with the employer, or an associate of the employer. ● The benefit is provided in respect of the employment of the employee. ● The benefit is not one of the exempt benefits. A benefit is defined within subsection 136(1) of the FBTAA as including; any right, (including a right in relation to, and an interest in, real or personal property), privilege, service or facility and, without limiting the generality of the foregoing, includes a right, benefit, privilege, service or facility that is, or is to be, provided under: (a) an arrangement for or in relation to: (i) the performance of work … Where an employer pays a third party on behalf of an employee or reimburses an employee in relation to expenses in respect of the employees' employment then a fringe benefit would be provided. In this case, a benefit was by provided to the employee by the employer in the form of the employee training fees to obtain a private pilot's licence. The cost of an employee to obtain a pilot licence is a benefit provided under an arrangement for or in relation to the performance of work. A 'fringe benefit' will arise from providing training fees to obtain a pilot licence to the employee by the employer as it is a 'benefit' provided to an employee by the employer by reason of the employee's employment and it is not an exempt benefit as outlined in paragraphs (f) to (s) of the 'fringe benefit' definition under subsection 136(1) of the FBTAA. The FBTAA classifies fringe benefits under a number of separate headings. In this case, the applicable fringe benefit is an expense payment benefit which is discussed below. | Detailed Reasoning - Expense payment benefit: The definition of an expense payment fringe benefit which is also contained within subsection 136(1) of the FBTAA provides that a fringe benefit which comes within the expense payment definition in section 20 of the FBTAA will be an expense payment fringe benefit. Section 20 of the FBTAA provides that an expense payment benefit will arise in two ways: ● Where the provider (in this case the employer) pays a third party in satisfaction of expenses incurred by the recipient (in this case the employee); or ● Where the provider (in this case the employer) reimburses the recipient (in this case the employee) for expenses they incur. In this case, the employer directly paid a third party for the employee's pilot licence training course to enable the employee to obtain a pilot's licence. The employee has not paid for any of the training course fees himself and therefore has not been reimbursed for any expenses by the employer. As the employer directly paid a third party for the pilot licence training course on behalf of the employee, an expense payment benefit has arisen. | Detailed Reasoning - Taxable value of expense payment fringe benefits: The taxable value of an external expense payment fringe benefit is determined under section 23 of the FBTAA. Section 23 of the FBTAA states: Subject to this Part, the taxable value in relation to a year of tax of an external expense payment fringe benefit provided during the year of tax is the amount of the payment referred to in paragraph 20(a), or the reimbursement referred to in paragraph 20(b), as the cases requires, reduced, in a case to which paragraph 20(a) applies, by the amount of the recipients contribution. In simple terms, the taxable value of an expense payment fringe benefit is either the amount of payment made by the employer on behalf of the employee for the employee’s obligation or an amount of reimbursement paid by the employer to the employee for an obligation the employee has paid or incurred. In this case, the employer has made an expense payment fringe benefit, which relates to payment of costs for a pilot licence training course, under section 20 of the FBTAA. Therefore, the taxable value of the expense payment fringe benefit under section 23 of the FBTAA will be the amount paid to the third party for the pilot’s licence course costs, unless the otherwise deductible rule applies. | Detailed Reasoning - Otherwise deductible rule: The taxable value of an expense payment fringe benefit may be reduced in accordance with the otherwise deductible rule (ODR) under section 24 of the FBTAA. Subsection 24(1) of the FBTAA permits a reduction of the taxable value of an expense payment fringe benefit under the ODR where all the necessary conditions of that section are met. Broadly, this means that the taxable value may be reduced by any amount the employee would hypothetically be entitled to claim as an income tax deduction if the employer had not paid the third party or reimbursed the employee in satisfaction of the expense incurred by the employee. However, the ODR only applies where the employee would have been entitled to a once-only deduction for the expenditure paid or reimbursed by the employer. A once-only deduction is defined, in subsection 136(1) of the FBTAA, to mean one that is wholly or partly allowable under the income tax law in only one year (for example, this would exclude deductions for depreciation expenses). The question of whether or not the employer would have been entitled to an income deduction for the expense is irrelevant. For the employer to reduce the taxable value of a fringe benefit under the otherwise deductible rule the employee would have had to incur the expense solely relating to the performance of their employment related duties and that expense would have to be wholly deductible to that employee for income tax purposes. The employee must substantiate to the employer each year prior to lodgement of the relevant FBT return, the extent to which the expense payment fringe benefit would have been otherwise deductible to the employee. In this case, before considering whether the costs involved with the employee undertaking flying lessons are 'otherwise deductible' to the company under the FBTAA, it is necessary to establish whether these costs would be deductible to the employee, in accordance with the income tax provisions, as discussed below. | Detailed Reasoning - Other information - deductibility of flying lessons to the employee: As the deductibility of the employee’s expenses relates to their tax affairs rather than the company’s tax affairs, we are unable to rule on this issue. However, the following information is provided. Most self-education expenses are incurred voluntarily and to be allowable under section 8-1 of the ITAA 1997, the expenditure must be characterised as having been incurred in gaining or producing assessable income. It is a long standing principle that a taxpayer does not satisfy section 8-1 of the ITAA 1997 merely by demonstrating a casual connection between the expenditure and the derivation of income. What must be shown is a closer and more immediate connection. The expenditure must be incurred in gaining or producing your assessable income ( Lunney v Commissioner of Taxation (1958) 100 CLR 478). These principles have been affirmed by the High Court in Commissioner of Taxation v Payne [2001] HCA 3. Taxation Ruling TR 98/9 Income tax: deductibility of self-education expenses incurred by an employee or a person in business discusses the circumstances in which self-education expenses are allowable as a deduction including where a taxpayer's current income-earning activities are based on the exercise of a skill or some specific knowledge and the subject of self-education enables the taxpayer to maintain or improve that skill or knowledge. Similarly, if the study of a subject of self-education objectively leads to, or is likely to lead to an increase in a taxpayer's income from his or her current income earning activities in the future, a deduction is allowable. Costs of self-education are not deductible if the study is to enable a taxpayer to get employment, to obtain new employment or to open up a new income-earning activity (whether in business or in the taxpayer's current employment). This includes studies relating to a particular profession, occupation or field of employment in which the taxpayer is not yet engaged. In such situations the expenses are incurred at a point too soon to be regarded as incurred in gaining or producing assessable income. There are an extensive number of cases which deal with self-education expenses generally, and a number which deal specifically with the acquisition of a pilot's licence. In the latter cases, the expenses are allowed as a deduction where the licence enhances the taxpayer's current skills. The expenses are generally disallowed as a deduction however where the licence opens up a new field of employment or has no direct connection with the income producing activities of the taxpayer. One of the leading cases in this area is Federal Commissioner of Taxation v Studdert 91 ATC 5006 ( Studdert's Case ) where a flight engineer sought a deduction for expenses incurred on light aircraft flying lessons leading to a private pilot's licence. In the first instance, the Administrative Appeals Tribunal (AAT) accepted that it was part of Mr Studdert's duties to understand the overall workings of aircraft flight. The AAT allowed the expenditure on the basis that the lessons improved his proficiency in those duties. Further, the AAT found that Mr Studdert rightly believed that the possession of the pilot's licence would assist him in seeking promotion to higher grades as an engineer, although the AAT did not consider it necessary to base its decision on this finding. On appeal, Hill J of the Federal Court substantially agreed with the AAT's decision, finding that the expenses were relevant and incidental to the activities as a flight engineer that directly produced Mr Studdert's income. This finding was based on the facts that undertaking the lessons made him better equipped to perform his skilled job and better proficiency was a motivation for undertaking the lessons. If necessary, His Honour would also have supported his decision with the finding that flying proficiency would assist Mr Studdert in promotion to high grades in his current job. The results in the above case can be contrasted with the following decisions: In Case V99 88 ATC 647, a solicitor who was actively involved in the area of aviation law was denied a deduction for flying lessons. The argument that the acquisition of the status of a pilot was an incident of the taxpayer's practice as a solicitor was not accepted. In Case U14 87 ATC 165, a pilot of fixed-wing aircraft was denied a deduction for the cost of helicopter flying lessons because new skills of a different character were being gained, rather than existing skills being extended. In Case R76 84 ATC 530, a taxpayer claimed a deduction for the cost of obtaining a commercial pilot's licence and upgrading it to a senior commercial pilot's licence. The taxpayer worked full time as an engineer, but did some part time flying for an aviation company. It was held that the cost of obtaining the initial commercial licence was not deductible, but the cost of upgrading the licence was deductible because it might reasonably be expected to result in increased earnings from flying. You have advised that the employee's occupation is management of projects and that the main business activity of the company which employs him is undertaking these projects, The employee’s case can be distinguished from Studdert's Case in that the ability to perform the duties of a project manager is not based on the exercise of the skills of a pilot, nor are those management skills expected to be improved by learning how to fly aeroplanes. While it is acknowledged that having the employee hold a pilot's licence would increase the earning capacity of the company by enabling the employee manager to cover a wider area within a shorter period of time, this does not mean the expense is deductible to the employee. As the employee would not be eligible to claim a deduction under section 8-1 of the ITAA 1997, the 'otherwise deductible' rule will not apply. Therefore, the employer is not able to reduce the taxable value of the expense payment fringe benefit provided by the company.