Capital Allowances: business related costs - deductibility of due diligence expenses

Is capital expenditure incurred to obtain an accountant's opinion as part of a due diligence process prior to the purchase of an existing business deductible under paragraph 40-880(1)(a) of the Income Tax Assessment Act 1997 (ITAA 1997)?

No. Capital expenditure incurred as part of a due diligence process prior to the purchase of an existing business is not deductible under paragraph 40-880(1)(a) of the ITAA 1997.

The taxpayer paid fees to an accountant, as part of the due diligence process, to obtain an opinion in respect of the potential purchase of an existing business. The taxpayer subsequently purchased the business.

Paragraph 40-880(1)(a) of the ITAA 1997 provides a deduction for capital expenditure incurred by a taxpayer in establishing their 'business structure'. The term 'business structure' covers the legal entity (such as a company) or the legal relationship (such as a partnership or trust) that is established as the entity that will carry on the business for a taxable purpose and that will hold the business assets. Expenditure to incorporate a company, form a partnership or create a trust would generally satisfy this provision.

The performance of due diligence is a fundamental process relevant to business acquisitions. It generally occurs once the vendor and purchaser have established common cause, but before the sale and purchase agreement is executed. Due diligence is an analytical review of the records and operations of a target business by the prospective purchaser. Broadly its basic purpose is to determine whether the target business is worth acquiring and at what price.

Expenditure incurred in undertaking due diligence relating to the purchase of an existing business is for the purpose of deciding whether to acquire a business and at what price. It is not directed to, or for the purpose of, establishing the business structure.

Capital expenditure incurred as part of the due diligence process, to obtain an accountant's opinion in respect of the potential purchase of an existing business, is therefore not deductible under paragraph 40-880(1)(a) of the ITAA 1997.