[By Kennedy Nakoonje Munyandi]
The COVID-19 pandemic has undoubtedly changed the way we live.
For example, in the employment sector, we saw the work from home (WFH) revolution adopted by a majority of employers. This phenomenon does not only imply that an employee works from home and not from the employer’s premises. In addition, the employee incurs additional costs for lighting, heating and cooling, water, coffee and tea, cleaning, internet and the wear and tear of furniture (e.g. table) and equipment (e.g. water dispenser or coffee maker). On the other hand, the associated costs for the employer would be reduced. What this all means for the taxation of labor income is the subject of this article.
Income taxation revolves around three main elements: taxpayer – who bears the tax burden; taxable income – what amount of earned income is taxable, taking into account deductible expenses, allowances and tax-free income; and the tax rate – what percentage of taxable income constitutes a tax liability. Regarding taxable income, the question arises: what would a worker’s tax-deductible expense be (given the COVID-19 pandemic and the rise of the WFH)?
As mentioned above, an individual’s taxable income is generally all of the income earned minus tax-free income, tax-deductible expenses and any tax-exempt amounts that an individual may be entitled to. When it comes to deductions, tax laws usually include a general deduction rule that sets out the qualifying criteria for deductibility of expenses. The law would also specify which other expenses would be eligible (ie expressly eligible items) or ineligible (ie expressly excluded items) despite the general deduction rule.
In our Income Tax Act, the general deduction rule for income from non-commercial activities (e.g. employment) is contained in Section 29 (1) (b), which reads as follows:
“29 (1) Subject to the provisions of this Part –
(b) When determining income from a source other than business activity, only those expenses, other than capital expenses, are permitted as a deduction for a financial year that are entirely and exclusively incurred in obtaining the income from that source. ”
Specific deductions include wear and tear allowances that are granted in lieu of investments. In particular and as an example, paragraph 7 of the fifth list of the Income Tax Act contains the term “employment” in the definition of “company” for the purpose of granting or claiming capital allowances for work equipment, machines and systems. This means that an employee who has used his own equipment or machines for his operational purposes, in this case an employment relationship, could be entitled to capital allowances.
With regard to the excluded expenses, § 44 provides (among other things) the following:
“44. No deduction will be made in relation to the following matters:
(a) Costs that a natural person incurs for the maintenance of his person, his family or his business or that are a household or personal expense ”.
The above three caveats therefore imply that expenses that can be deducted from labor income must (i) not be capitalized; (ii) it must have “accrued” “entirely and exclusively” “during the production” of the labor income; and (iii) it cannot be domestic or personal expenses. In addition, capital allowances can be granted instead of investments.
In the history of wage taxation, travel expenses to and from work have been the most contentious issue of deductible expenses. But this matter was convincingly settled in a tax proceeding in the UK Court of Appeals in which Lord Denning famously ruled:
“Many people today have only a very limited choice of where to live. Business people and professionals cannot make a living from their work even if they choose to. Some may do this, but once those few occupy the limited accommodations in central London there is no room for the thousands that are left. They must live outside, between 5 and 50 miles from London. They have to live where they can find a house. Once they find it, they have to stay there and go to and from her to her work. They just can’t go and make a living from their work. What is the position of the people who are placed in this way? Are your travel expenses incurred solely and exclusively for the purpose of commercial, professional or professional activity? I do not think so. A distinction must be made between the cost of living and business expenses. In order to decide in which category travel expenses should be classified, you need to consider the basis on which the trade, profession or profession is carried out. In the case of a merchant, the basis of his trading operation is his business. In the case of a lawyer, it is his chambers. The travel costs to the various courts are incurred on arrival at his office exclusively for his professional purposes. However, the situation is different with the travel expenses from his home to his apartments and back. This is because he lives far from his base. It arises for the purposes of his life there and not for his professional purposes, at least not entirely or exclusively; and that is whether he has a choice or not. It’s the cost of living as opposed to business expenses. ”Newsom v Robertson (Tax Inspector) (1952) 33 TC 452.
Well, Lord Denning, I am sorry to tell you that people make a living from their work these days. Not that they have moved to work. But work has moved to her whereabouts, her home. It is now not about travel costs, but about subsistence costs. What is telling you now, sir?
Instead of waiting for answers from his lordship who, by the way, might be dead, let’s tick the boxes instead.
If an employee’s utility bills (i.e. water, electricity, internet, etc.) increased by an amount X due to the WFH in a given tax year, would that amount be deductible from the employee’s earnings? When applying the deduction rules outlined above, it is clear that: the amount X is not a capital expenditure; the amount would have accrued entirely and exclusively in the production of the labor income; and the amount cannot be described as domestic or personal expense. It follows that amount X should be deductible for income tax purposes. If the employee needs to purchase an asset, such as a work station or air conditioning, the cost may not be deductible as it is an investment but qualify for a capital allowance.
My conclusion, therefore, is that expenses incurred by an employee in working from home should be deductible from income tax. Like any other tax deduction, these expenses must be quantified and determined to the satisfaction of the tax authorities.
Currently, the only way to claim such a deduction is by filing an annual income tax return. This procedure can be stressful for both the tax office and the employees. There are two alternatives that the government might consider. The first is that workers can claim a refund from their employer, who in turn would claim it as a business expense. The second option would be for the government to emulate what New Zealand did. This country is said to have introduced a tax-free allowance, which is paid to an employee by an employer to cover the expenses of the WFH.
It cannot be denied that WFM incurs increased expenses for employees. These expenses must be relieved of the employees. You have the right to file tax returns and claim expenses. However, leaving employees to claim the tax deduction would pose a serious revenue risk, as attempts are made to push the law to its limits, let alone a high risk of abuse. For example, if an employee rents a house, can some of the rents be allocated to WFM? If you live in your own home, can you claim a partial capital allowance based on the value of the house? I don’t see why this can’t be possible. The government can avert this risk by establishing a clear rule and / or law.
The author is the owner of Munyandi InterTax Advisory Xervices (MiTAX), an international and national tax law firm. He can be reached by email ([email protected]), WhatsApp (+260 76 203 1514) or Facebook (www.facebook.com/MiTAX2021).