Tax Efficient Training - Keith M Gordon MA, ACA, ATII looks at the various rules for obtaining tax relief on training expenses.

Tax Efficient Training
Keith M Gordon MA, ACA, ATII looks at the various rules for obtaining tax relief on training expenses.
Training can broadly be separated into two categories: training that is intended to impart new knowledge, and that which is to reinforce and refresh previous skills and knowledge. There will clearly be an overlap, for example where refresher courses provide updates of recent developments. This distinction is particularly important for training undertaken by the self-employed. For expenses incurred on training to qualify as an allowable deduction, the rules inter alia in section 74, Taxes Act 1988 will need to be met.
The Inland Revenue referred to this distinction in its first Tax Bulletin (November 1991). There it was stated:
'Where attendance at a course is intended to give business proprietors new expertise, knowledge or skills which they lack, it brings into existence an intangible asset which is of enduring benefit to the business. We take the view that the expenditure is therefore of a capital nature, and deduction is prohibited by section 74(1)(f), Taxes Act 1988.'
The article confirmed that courses attended to provide the proprietor with an update will qualify for relief provided that the expenditure satisfies the normal wholly and exclusively test in section 74(1)(a).
Most courses that the self-employed are likely to undertake will be treated as revenue items. However, practitioners who act for franchisees should be aware that the costs of initial training provided by the franchisor will generally be treated as capital expenditure.
Many readers will incur costs related to courses leading to a professional qualification, e.g. associateship of The Chartered Institute of Taxation, and depending on the prior knowledge of the individual, he may or may not gain any new 'expertise, knowledge or skills which they lack'. However, this is not particularly relevant, since the acquisition of a new professional qualification itself brings into existence an intangible asset which will be of enduring benefit to the business. As a result, any costs incurred would not be allowable deductions by virtue of section 74(1)(f).
Expenses incurred on behalf of employees
The position is somewhat different when expenditure is incurred for employees. There is a general presumption that expenditure incurred on employees constitutes an allowable revenue deduction. This was confirmed by the Revenue in its Tax Bulletin article in February 1997.
It was clear from the article that some employers had been concerned that some training expenditure would fail to satisfy all the tests in section 74. The article stressed that the deductibility or otherwise of an expense would depend on 'the purpose of the expenditure rather than its result'. In particular, if expenditure had been incurred on a course that:
 ultimately proved to have little benefit to the business; or
 gave rise to a non-business benefit;
these matters would not on their own taint the actual expenditure.
The Revenue also confirmed that it was acceptable to charge training expenditure through a revenue account, even though the training gave rise to an enduring benefit to the employer (in better trained staff, or staff trained to use its new equipment). The reasoning behind the Revenue's pronouncement was the pace of technological and commercial change and also the fact that there was no guarantee that the staff would not resign in the interim. It is difficult to argue with this view.
The Tax Bulletin article, however, provided examples where a revenue deduction would not necessarily be so forthcoming. The article states:
'Where on the other hand an employee or director of a company, on whom the expenditure is incurred, has a significant proprietary stake in the business or is a relative of those who do, there is obviously a much greater chance that expenditure may have been incurred not, or not wholly, for business purposes but to provide the employee with some personal benefit. If that is the case then the expenditure is not deductible – the business purpose has to be the exclusive purpose. To take an extreme example, there could be no allowance for the educational costs of the business proprietor's son who is employed in the business during university holidays. In such cases it is often helpful to ask whether the expenditure would have been incurred on an otherwise unconnected employee doing the same job.'
Again, it is difficult to disagree with the example. But is the Revenue correct when it refers in the opening sentence to a company's employees or directors? Certainly, in situations where the employee has an element of control over the company, the employee may be able to benefit from certain expenditure that other employees would not be able to enjoy. But is that a matter for add-backs under Case I?
It is not so long ago that the Revenue announced the end of the informal practice that some employers followed whereby expenses that were properly assessable as benefits-in-kind on employees were omitted from forms P11D on the understanding that the employer would disallow them in its own tax computations. It is the writer's opinion that in most cases a corporate employer should obtain a deduction in respect of training expenses incurred on behalf of an employee. If there is any taxable benefit, this should be returned in the normal way.
The position for employees
This leads on neatly to the next area to be considered. What is the position for employees? Does it matter who ultimately bears the expenditure?
Many employees attend training courses during their employment. Some courses provide an update; others are designed to provide new knowledge. When expenditure is incurred by the employee, can relief be obtained for the cost under section 198, Taxes Act 1988?
To answer this, it is necessary to look at the wording of this relieving provision. Section 198(1) provides that relief may be given in respect of:
'any amount (other than qualifying travelling expenses) expended wholly, exclusively and necessarily in the performance of the duties of the office or employment.'
On a strict reading of this, it will be seen that attendance at a training course falls outside these words. Even if the employee necessarily attends the course, and the course is wholly and exclusively for the purposes of the employment, relief will not be available. This is because the attendance at the course will not be 'in the performance of the [employee's] duties'. This distinction was made in Brown v Bullock 40 TC 1 by Lord Justice Donovan in the Court of Appeal concerning a bank manager's obligation to join a gentlemen's club as required by his employer:
'The test is not whether the employer imposes the expense but whether the duties do, in the sense that, irrespective of what the employer may prescribe, the duties cannot be performed without incurring the particular outlay.'
In other words, if an employee incurs the cost of training required for the employment there is no tax relief available under section 198. As this applies to courses to which the employee is sent by the employer, this applies even more so to courses which the employee attends voluntarily. Furthermore, it does not matter whether the course is providing an update or giving the employee new training.
Were relief available under section 198 then there would be no problem for an employee to escape a tax liability in respect of course fees paid for by an employer. But as we have shown, tax relief is not available under section 198. So why is it that employees do not incur a tax benefit every time they attend a course paid for by their employer?
Such benefits are exempted from tax by sections 200B and 200C, Taxes Act 1988. These sections cover cases only where the employer incurs the expenditure on the training or where the employer reimburses the employee (section 200B(1) and (3)). The expenses referred to include both the cost of providing the training as well as any 'related costs'. These costs are defined by subsection (4) as:
'(a) any costs which are incidental to the employee's undertaking the training and are incurred wholly and exclusively as a result of his doing so;
'(b) any expenses incurred in connection with an assessment (whether by examination or otherwise) of what the employee has gained from the training; and
'(c) the cost of obtaining for the employee any qualification, registration or award to which he has or may become entitled as a result of undertaking the training or of undergoing such an assessment.'
It is therefore this provision that allows accountancy and tax students to participate in professional training courses, claim travel expenses, sit examinations and have their membership of the appropriate institute all paid for by their employer without there being a taxable benefit-in-kind.
Section 200B(5) states that this provision covers 'any training course or other activity which is designed to impart, instil, improve or reinforce any knowledge, skills or personal qualities which –
'(a) is or, as the case may be, are likely to prove useful to the employee when performing the duties of any relevant employment; or
'(b) will qualify him, or better qualify him –
(i) to undertake any relevant employment; or
(ii) to participate in any charitable or voluntary activities that are available to be undertaken in association with any relevant employment.'
This allows relief to be obtained on a wide range of work-related training as well as courses provided for personal development (such as public speaking and management). The provision of courses that simply support a hobby of the employee is unlikely to be covered by this section.
Subsection (6) defines 'relevant employment' as:
'(a) any office or employment which he holds under the employer or which he is to hold under the employer or a person connected with the employer;
'(b) any office or employment under the employer or such a person to which he has a serious opportunity of being appointed; or
'(c) any office or employment under the employer or such a person as respects which he can realistically expect to have such an opportunity in due course.'
By including future employers, this section therefore covers trainee solicitors, for example, who undertake most of their professional training before commencing their employment.
The effect of the section is restricted to some extent by section 200C. This includes a restriction on recreational and entertaining facilities. Interestingly, section 200B cannot be used to provide a relief in respect of any course provided as a reward for the performance of the duties of the employment or the manner in which these duties have been performed (section 200C(1)(b)).
Many employers reward their staff as an incentive for improved performance. While this will often be in financial terms, the opportunity to attend career-enhancing courses may often be a sufficient incentive. Section 200C(1)(b) would suggest, however, that such rewards are not covered by section 200B. The corollary to this would be that the employees would then be liable to tax on the provision of the course – hardly the best of incentives – unless the employer were to deal with the matter under a pay-as-you-earn settlement agreement. An alternative interpretation could be taken by reference to section 200C(4). That subsection indicates that relief is available under section 200B on any course covered by section 588, which provides relief for many courses exempted under section 200B – as long as they last a year or less and are in the United Kingdom. If an employer were faced with a challenge that section 200C(1)(b) prevents relief from being given in respect of a course, it may be possible to argue that section 200C(4) suggests that the course may indeed be covered by the exemption. For the avoidance of doubt, however, it would be advisable for the provision of such courses to be outside any rewards system.
Section 200C(2) provides explicitly that travel and subsistence payments in connection with any training are subject to the tests in section 198 (and therefore, by extension, Schedule 12A). The tests are applied on the assumption that the training was undertaken in the performance of the duties.
Section 200C(3) provides that section 200B cannot generally be applied to cover the provision of assets to employees. However, exceptions to this rule arise to cover assets:
'provided or made available for use only in the course of the training;
'provided or made available for use in the course of the training and in the performance of the duties of the employee's office or employment but not for any other use;
'[consisting] in training materials provided in the course of the training; or
'[consisting] in something made by the employee in the course of the training or incorporated into something so made.'
This will cover worksheets and other course materials. At a first glance, it is not particularly clear whether the provision of textbooks would qualify for relief on the basis that such books may be used outside the training course and the employment. However, books are specifically included in the definition of training materials in subsection (7) and will therefore seem to be subject to relief. Interestingly, this definition of training materials which covers 'stationery, books or other written material, audio or video tapes, compact disks or floppy disks' may not cover some of the more recent methods of information transfer (for example digital video disk (DVD) and the downloading of material). It remains to be seen whether these will in practice be treated as within the definition.
Finally, section 200D extends the rules in section 200B to cover expenses incurred by a person other than the employer.
Employee funded courses
It was mentioned above that section 200B only applies when the costs are met (either directly or by reimbursement) by the employer. As a result, tax relief will invariably be unavailable when costs are met by the employee personally.
For some employees, it may be possible to circumvent this by arranging with the employer a reduced salary in exchange for the payment of the course fees. Not only would this be tax and National Insurance efficient, but it could also in many cases save the employee the VAT charged on the course fee. Normally, salary-sacrifice schemes will fall foul of the decision in Heaton v Bell 46 TC 211 which held that the salary forgone would be taxable as emoluments. However, it appears that this decision would not apply here because of the exemption provided for in section 200B: ' … the emoluments of the employee from the office or employment shall not be taken to include (a) any amount in respect of' work-related training expenditure.
For other employees, relief may be available under section 198 by virtue of Extra-Statutory Concession A64. This concession applies to course fees, the cost of books, travel and subsistence provided that the following apply:
 The employee continues to receive his full salary from his employer during the course, but is allowed time off to attend it during normal working hours.
 The course is one which the employee is required or encouraged to attend by his employer with a view to increasing his effectiveness in the performance of present or prospective duties in that employment.
 The course is a full-time one requiring the employee's attendance on every or virtually every working day for four consecutive weeks or more. Where a course consists of a number of blocks, each block is considered separately. Only those blocks which last four weeks or longer satisfy this condition.
 The course takes place in the United Kingdom.
 The expenses do not relate to a re-sit course or examination.
Retraining courses
Reference has already been made to section 588. This provision exempts from Schedule E payments made in respect of courses 'undertaken with a view to retraining the employee'. Such courses are those:
 ' designed to impart or improve skills or knowledge relevant to, and intended to be used in the course of, gainful employment (including self-employment) of any description; and
 ' entirely devoted to the teaching or practical application of the skills or knowledge (or to both such teaching and practical applications)' (section 589(1)).
It has already been stated that the courses should last no more than a year and generally take place in the United Kingdom. Section 588 therefore goes further than section 200B because the courses undertaken need not be related to the work being performed in the employment concerned. The section can therefore be used to allow employees to train for new careers without incurring a tax charge on the cost. Where the employer does not wish to bear the cost of the training, a salary-sacrifice scheme may again prove appropriate.
Subsections (3) and (4) ensure that the employer can also qualify for a deduction in respect of the course costs, even though they may not be incurred wholly and exclusively for the purposes of the employer's business.
For these exemptions to apply, the employee must attend the course on at least a substantially full-time basis. To prevent abuse, the employee must have been employed full-time for two years before the course starts (or the employment ceases, whichever is the sooner).
To ensure that the course is properly undertaken for retraining purposes, the employee must:
'(a) … [begin] to undertake the course of training while employed by the employer or within the period of one year after ceasing to be so employed; and
'(b) … [cease] to be employed by the employer not later than the end of the period of two years beginning at the end of the qualifying course of training.' (Section 589(3).)
In addition, section 589(4) stipulates that the employee must not be re-employed by the employer within two years of leaving. Provided that these conditions are met, then relief will be available in respect of:
 fees for attendance at the course;
 fees for any examination which is taken during or at the conclusion of the course;
 the cost of any books which are essential for a person attending the course; and
 travelling expenses under section 198 principles assuming that the attendance at the course was in the performance of the duties of the employment (section 589(5)).
Where relief has been obtained, but the employee does not leave the employment within two years of the end of the course (or leaves but rejoins within two years of leaving) then any tax underpaid as a result can be assessed. Further, there is an obligation in section 588(5) and (6) on the employer to notify the Revenue of any such circumstance.
Individual learning accounts
The individual learning account régime has recently replaced the old vocational training relief which expired on 31 August 2000. The new rules are in section 200E to 200J, Taxes Act 1988, and exempt from tax payments made in respect of the training of employees who hold individual learning accounts under section 105 or 106, Learning and Skills Act 2000 or section 2, Education and Training (Scotland) Act 2000. These were enacted to provide training experiences for disadvantaged sectors of the community and the rules are not considered further here.
Keith Gordon is a director of ukTAXhelp Ltd and can be contacted by e-mail on keith.gordon@ukTAXhelp.co.uk. The views expressed in this article are those of the author alone.
 

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