Tax deductions for website costs: Do you know the rules?

Many, if not most, businesses these days have websites. It’s simply part of the process of doing business and it is becoming more important by the day. People’s shopping habits are turning online at an increasing rate and failure to meet that demand can be very costly for a business.

However, a website is never finished and continual tweaks and upgrades are the order of the day.

Of course, building or improving a website costs money. Many of those costs are tax deductible but there are rules surrounding that deductibility that must be observed.

The Australian Tax Office recently released guidance for businesses on claiming tax deductions for website costs.

If a business incurs expenses before it starts up, it can claim the cost over five years (i.e. 20% of the cost per year), once it starts up.

Small businesses – defined as those with an aggregated turnover of less than $2 million – can choose to use the simplified depreciation rules. In that case, if the cost is:

less than the instant asset write-off threshold, which is currently at $20,000, the small business can claim a deduction for the full amount in the income year it incurs the expense;
equal to or more than the instant asset write-off threshold, the small business can allocate it to a general small business pool.

Businesses cannot use the simplified depreciation rules if they have chosen to allocate expenditure on the software to a software development pool.

The cost of commercial off-the-shelf software is generally deductable in the year of purchase. However, special rules apply to deductions for the cost of developing in-house software for own use of a business.

In-house software has a statutory effective life of five years and must be depreciated using the prime cost method.

The ATO says that from July 1, 2015, in-house software expenditure incurred and allocated to a software development pool is deductible over five years. For example, year one – nil; years two to four – 30% each year; year five – 10%.

If the simplified depreciation rules do not apply, businesses can claim a deduction for website costs over five years if they incurred those costs on or after July 1, 2015. If the expense is:

in-house software – the business can deduct 20% of the cost per year;
included in a software development pool – the business can deduct different proportions of the expense each year.

Businesses can only allocate expenditure to a software development pool if it was to develop software, not to buy software off-the-shelf.

Businesses can also claim an outright deduction for some ongoing expenses associated with running and maintaining their website in the income year the expense is incurred. The ATO cites the following examples:

Domain name registration fees – In July 2015, a small business bought a $2000 website hosting package. It also has to pay service fees of $50 a month, plus $50 a year for the domain name. The business can claim a deduction of $2000 in its 2015-16 tax return under the simplified depreciation rules, and a deduction for the monthly and yearly fees in the year it incurs those expenses.
Server hosting costs – You set up a software development pool in 2012 when you set up your business’s first website. In August 2015, you incurred $4500 in costs to update the software behind the website. You have to allocate this expenditure to the software development pool and can claim a deduction for it over five years.

ATO public ruling to come

The ATO is also developing a public ruling on the deductibility of website development costs. It is consulting with tax and industry representatives to discuss the issues and scope of the ruling. No timing on this was given.

There are tricks and traps to be aware of when claiming tax deductions for website costs, so SMEs need to be careful when claiming these costs.

Terry Hayes is the editor-in-chief of tax news reporting at Thomson Reuters, a leading Australian provider of tax, accounting and legal information solutions.