The ATO released the final tax ruling in relation to the deductibility of labour costs incurred in the construction or creation of capital assets.
TR 2023/2 looks to specifically exclude labour costs incurred in the construction or creation of capital assets from being tax deductible under s 8-1 of ITAA 1997.This ruling applies to income years commencing both before and after 9 June 2023 (date of issue).
Apportionment of costs
The nature of labour costs incurred on a project may be susceptible to change. Where the nature of labour costs incurred changes from capital to revenue or vice versa, the ATO expects an apportionment to be conducted on a fair and reasonable basis.
In determining a reasonable basis for apportionment, the ruling makes clear that an evidentiary basis is required. Such evidence may include:
• timesheets
• contractor agreements
• employee or contractor position descriptions
• information available in internal systems, including:
– project resource allocations
– project planning schedules
– activity tracking
– cost centre allocations, and
– project governance documents
• written reports, and
• correspondence.
Accounting treatment
The ruling signifies that the accounting treatment of labour costs is not a determinative factor in ascertaining the character of the expenditure for taxation purposes. It, however, may be a contributing factor (among other factors) in determining the nature of costs.
TR 2023/2 covers tangible as well as intangible capital assets, for example, labour costs that are directed to the construction of manufacturing plant as well as the creation of an operating procedures manual for that plant.
Determining capital labour costs
We recommend that you review your wages and salaries expenses and segregate the amounts related to any construction or creation of capital assets from those incurred in the ordinary course of business.
Separating wage and salaries expenses will simplify the process of claiming deductions for employees not involved in the construction of capital assets.
Next Steps
We can assist you with amending any tax returns, if within the amendment period window, originally prepared based on conservative estimates. In some cases, amendments may also lead to tax refunds.
Expensing more salaries and wages based on a fair and reasonable apportionment may also reduce the carrying value of capital assets and hence lower the cost base (for CGT purposes) upon disposal.
We have also attached a worked example for your reference, this will provide you with further guidance on this matter.
Contact us
Please feel free to contact our office should you have any queries or if you require assistance in relation to this tax ruling.
Worked example – Deductibility of labour costs for capital assets
