The basic condition for deductibility of expenses is that deductions are allowable only with respect to expenditures that are wholly and exclusively incurred in the production of income.
In order to be in a position to claim a tax deduction, a valid tax invoice/other equivalent document sustaining the expense may have to be provided if requested by the Maltese Commissioner for Revenue.
Apart from the general tax deductibility rule stated above, the Maltese Income Tax Act also provides a number of exceptions whereby specific expenses of a capital nature may also be tax deductible, subject to the satisfaction of the statutory conditions applicable thereto. The following are some further comments on specific items of expenditure.
Depreciation and depletion
Tax depreciation is computed on the straight-line method. The rate of depreciation on plant and machinery varies according to the category of the plant and machinery in question.
Maltese tax law prescribes the minimum number of years over which items of plant and machinery are to be depreciated as follows:
|Computers and electronic equipment||4|
|Furniture, fixtures, fittings, and soft furnishings||10|
|Equipment used for constructions of buildings and excavation||6|
|Aircraft - aircraft airframe||4|
|Aircraft - engines||4|
|Aircraft - engine or airframe overhaul||4|
|Aircraft - interiors and other parts||4|
|Ships and vessels||10|
|Electrical and plumbing installations and sanitary fittings||15|
|Communications and broadcasting equipment||6|
|Lifts and escalators||10|
|Equipment mainly designed or used for the production of water or electricity||6|
The wear and tear rate on industrial buildings and structures (including hotels, car parks, and offices) may not exceed 2% per annum. New acquisitions of industrial buildings and structures are entitled to a concurrent extra 10% allowance in the year of acquisition. Tax depreciation is not required to conform to book depreciation.
The total allowances over the asset’s useful life may not exceed 100% of its cost. If a surplus arises on disposal of a tax-depreciated asset, it is either added to the year’s income or utilised to reduce the cost of any replacement. If the asset has been under-depreciated, a balancing allowance is granted.
No deduction is available for the depletion of natural resources.
The rules on tax deductions for wear and tear of plant and machinery provide for certain specific treatment in particular situations, including, among other things, the following:
- To establish the cost of an asset when it is transferred between related companies, the lower of the actual cost of the asset or the tax written-down value adjusted by any balancing charge or allowance incurred by the transferring company should be applied.
- Deductions for wear and tear are allowed only where proper records and documentation have been kept that support the cost of the respective assets.
- A proportional deduction is allowed where an asset is used partly in the production of income and partly for other purposes.
Intellectual property (IP)
Maltese tax law provides for a tax deduction for expenditure of a capital nature on IP or any IP rights incurred in the production of income. Such expenditure should be tax deductible over the life of the relevant IP but, in any case, over a minimum period of three consecutive years.
Malta also has in place a Patent Box Regime. These Rules provide for a deduction in relation to qualifying income derived from 'qualifying IP' on or after 1 January 2019. The Rules have been drafted in a manner so as to be compliant with the OECD modified nexus approach and the EU Code of Conduct on Business Taxation.
'Qualifying IP' includes patents and utility models, software, and IP assets relating to medical products. In order for a significant proportion of IP income to qualify for benefits, a significant proportion of the actual R&D activities must have been undertaken by the qualifying taxpayer itself. The beneficiaries in such circumstances would be the owners of the qualifying IP or the holder of an exclusive licence in respect of the qualifying IP. The Patent Box Regime deduction is calculated based on a formula and subject to satisfying a number of conditions.
In the event that goodwill were to fall within the purport of IP for the purposes of the tax deductibility rules under Maltese tax law, then it may possibly be argued that an expenditure on goodwill may be tax deductible. However, this would need to be analysed on a case-by-case basis.
Certain pre-trading expenses (i.e. staff training, advertising, salaries/wages) are also allowed as a deduction, subject to the satisfaction of the following conditions:
- The expenditure is incurred not more than 18 months before the commencement of the trade or business.
- The expenditure is not deductible in ascertaining the trading or business income of the person carrying on such trade or business but would have been so deductible under (i) above had it been incurred after that time.
In the event that the above conditions are satisfied, such expenditure is treated as incurred on the day on which the trade or business is first carried on by the person.
Interest on any borrowed money is an allowable deduction if it is paid on capital employed in acquiring income. The expense is allowable even though the borrowing would have been made for a capital purpose. This special rule is in addition to the deduction for interest paid on money due on revenue account (such interest should be deductible under the general rule of deductibility), such as interest on trade debts or charged on normal business overdraft facilities. There is a restriction in respect of interest deductibility where the relevant advance is in connection with the financing of Maltese immovable property and subject to certain other conditions.
As of 1 January 2019, interest limitation rules were introduced that reflect the provisions set out under the EU Anti-Tax Avoidance Directive (ATAD). These rules set a cap on the amount of interest tax deductions that may be availed of. The limit applies with respect to borrowing costs that exceed interest income. This is capped at 30% of tax-adjusted earnings before interest, taxes, depreciation, and amortisation (EBITDA). It should be noted that no capping applies where exceeding borrowing costs fall below EUR 3 million. Maltese application of the directive provides for a grandfathering clause, meaning that loans that were concluded before 17 June 2016 fall out of the scope of the directive.
Where a taxpayer forms part of a group, the taxpayer may, subject to certain conditions, fully deduct exceeding borrowing costs if it can demonstrate that the ratio of its equity to its assets is equal to or higher than that of the group of which it forms part.
There are also derogations to the interest limitation rule, such as standalone entities (i.e. companies that are not part of a group for financial accounting purposes, that are not associated enterprises or PE’s), certain types of financial companies, such as credit institutions, and long-term infrastructure projects.
If borrowing costs are exceeded during one year and cannot be fully deducted, they may be carried forward without limitation. If, on the other hand, the allowed interest capacity is not fully used, this can be carried forward for a period of five years.
Bad debts incurred in any trade, business, profession, or vocation are allowed in the year they become bad if proved to the satisfaction of the tax authorities. No deduction is given for provisions for bad debts and for bad debts incurred in activities other than a trade, business, profession, or vocation. Any bad debt that is later recovered is deemed as income for the year in which it is received.
The general rule is that charitable contributions are not deductible for Maltese tax purposes unless expressly provided for by law.
Fines and penalties
The general rule is that fines and penalties are not deductible for Maltese tax purposes. Nevertheless, there is an exception to this general rule that provides that interest paid or payable by any person in terms of the Maltese VAT Act will be treated as expenses incurred in the production of the income of that person for income tax purposes.
Technically, taxes suffered should not be deductible for Maltese tax purposes. However, the typical interpretation of the Maltese Commissioner for Revenue is that as long as no relief of double taxation is claimed for the tax, then such tax should be available as a tax deduction.
Other significant items
- The Income Tax (Deductions) Rules of 2001 provide for specific conditions on deductions with respect to the use of cars and the payment of employee compensation. The cost on which capital allowances on certain motor vehicles may be claimed is restricted to EUR 14,000. Deductions for lease payments on cars are restricted in a manner that corresponds with the stated restriction of EUR 14,000 that applies to capital allowances on owned cars. With respect to payment of employee compensation, the Deduction Rules require that in order for employee compensation to be allowed as a deduction for tax purposes in the hands of the employing company, it must have been duly accounted for. In particular, the employee compensation must have been reported on the appropriate forms and within the statutory time limit to the Maltese Commissioner for Revenue. The rules also provide for restrictions on deductibility of emoluments with respect to the payment of certain fringe benefits to employees.
- A tax deduction in respect of transportation costs of employees to and from the place of work using means of transport capable of carrying more than eight persons has been introduced. Under the applicable rules, undertakings may claim a deduction against its income equivalent to 150% of the employee transportation costs incurred in the relative year, subject to certain conditions being satisfied.
- Further to the EU initiative in order to align the EU member states to the OECD’s action plan on base erosion and profit shifting (BEPS), as of 1 January 2020, anti-hybrid legislation (with the exception of reverse-hybrid mismatches) was implemented into local legislation. Such anti-hybrid legislation aims to neutralise hybrid mismatches (e.g. hybrid financial instruments, hybrid entities, PE mismatches, dual residency mismatches) that arise as a result of a different tax treatment in two or more jurisdictions (both EU member states and third countries) and give rise to the following:
- Double deduction (DD), which refers to a deduction of the same payment, expenses, or losses in the jurisdiction in which the payment has its source, the expenses are incurred, or the losses are suffered (payer jurisdiction) and in another jurisdiction (investor jurisdiction). Anti-hybrid legislation aims to neutralise the mismatch primarily by denying the deduction in the investor jurisdiction or, if the deduction is not denied in the investor jurisdiction, such deduction shall be denied in the payer jurisdiction. However, any such deduction shall be eligible to be set-off against dual inclusion income whether arising in a current or a subsequent tax period (i.e. income that is included under the laws of both jurisdictions where the mismatch outcome has arisen).
- Deduction without inclusion (D/NI), which refers to a deduction of a payment (or deemed payment between the head office and PE or between two or more PEs) in any jurisdiction in which that payment (or deemed payment) is treated as made (payer jurisdiction) without a corresponding inclusion for tax purposes of that payment (or deemed payment) in the payee jurisdiction. A measure to neutralise the hybrid mismatch is that such deduction shall be denied in the payer jurisdiction. On the other hand, if the deduction is not denied in the payer jurisdiction, the amount of the payment that would otherwise give rise to a mismatch outcome shall be included as taxable income in the payee jurisdiction.
- Apart from the above, other amendments (reverse-hybrid mismatches) stipulate that as of 1 January 2022 non-resident entities holding in aggregate a direct or indirect interest in 50% or more of the voting rights, capital interest, or right to share profits in a hybrid entity shall be deemed to be residents of Malta.
- The EU Tax Dispute Resolution Mechanism Directive Implementation Regulations lay down the rules on how to resolve disputes between the interpretation and application of agreements and conventions that provide for the elimination of double taxation of income between Malta and other member states.
Net operating losses
Net operating losses may be carried forward indefinitely until absorbed. There is no carryback of losses, even in terminal years. Unabsorbed capital allowances may be carried forward only against the same underlying source of income. Where the source ceases to exist, any remaining balance of unabsorbed capital allowances is lost.
Certain rules apply in relation to the discretion of the Commissioner for Revenue to allow tax losses/capital allowances to be taken over by the surviving company following a merger/division.
Payments to foreign affiliates
There are no restrictions on the deductibility of royalties and interest (except for interest, discount, or premium that are in any manner connected to Maltese immovable property and subject to the satisfaction of certain other statutory conditions, in which case, the interest/discount/premium should not be tax deductible in Malta). As of 1 January 2019, one also needs to consider the ATAD provisions on interest deductibility and service fees paid to foreign affiliates as long as the particular expenses are considered to be incurred in the production of the particular income and satisfy the applicable statutory conditions. Interest, discount, premium, or royalties derived by non-residents are exempt from Maltese tax, subject to the applicable statutory requirements.
Notional interest deduction (NID)
The NID is calculated by multiplying the deemed notional interest rate by the balance of risk capital that the undertaking has at year-end. The undertaking shall be entitled to a deduction for sums that are deemed to be payable by way of interest on risk capital or such part thereof as may be determined by the undertaking for the particular year. The notional interest rate is the risk-free rate set on Malta Government Stocks with a remaining term of approximately 20 years plus a premium of 5%. The risk capital of the undertaking includes mainly share capital, share premium, reserves, and interest-free loans as at year-end. The NID may also be claimed by a Maltese PE of a non-Maltese resident undertaking. In that case, the risk capital is taken to be the capital attributable to the PE.
The maximum deduction in any given year cannot exceed 90% of chargeable income, and any excess can then be carried forward to the following year. Certain anti-avoidance rules apply to prevent abuses of the NID.