Is Professional Indemnity Insurance Tax Deductible in Australia: When You Can Claim It

Generally, yes. The ATO says, “Operating expenses for the everyday running of businesses are generally deductible in the year you pay for them.” Its general business operating expenses list includes “insurance premiums” and specifically names “professional indemnity”.

As a sole trader, self-employed professional or small business owner, you can generally claim your PI premium as a business expense if it relates to carrying on your business and meets the ATO’s deduction rules. The business portion is deductible; any private portion is not.

The general rule

The ATO’s general rule is that most expenses incurred in carrying on a business are deductible if they are directly related to earning your assessable income.

That matters when you buy PI cover. If the premium is an expense of your business, it falls within the specific category the ATO identifies as deductible. The fact that it is PI insurance matters, but so do its purpose, timing and supporting records.

The ATO describes the timing in two connected ways:

• Everyday business operating expenses are generally deductible in the year you pay for them.
• Most operating expenses can generally be claimed in the same income year you incur them.

Keep the transaction record showing when you paid the premium. Do not assume that a PI policy has a separate timing rule merely because it provides cover for a defined period.

Use the ATO’s three golden rules

Before claiming the premium, test it against the ATO’s three golden rules for business deductions.

1. The expense must be for your business

The expense must:

• Have been incurred for your business.
• Be available as an allowable deduction.
• Relate to earning assessable income.
• Not be for private or domestic use.

A premium is not supported merely because it is labelled “professional indemnity”. You must be able to connect it to your business activity.

2. Claim only the business portion of a mixed expense

If the policy or expense relates to both business and private use, you can claim only the portion used for your business.

The ATO says you must apportion the expense on a fair and reasonable basis that reflects the private use of the asset or service. Keep records showing how you made that apportionment.

3. Keep records that prove the expense

You must have records to prove that you paid the premium, what it was for and how it relates to your business.

If you cannot satisfy these rules, you should not claim the full premium.

Mixed business and private policies

A policy that serves both business and private purposes presents an apportionment issue. You cannot deduct the whole premium simply because part of it relates to your consulting, professional or other business work.

For mixed-use expenses, the ATO says to claim only the business portion. Its general apportionment approach is based on the private and business use of the asset or service acquired. The split must be fair and reasonable and must reflect any private use.

Your records should show:

• The private and business purposes of the expense.
• How you worked out the business portion.
• The documents supporting that allocation.

If your policy has both types of cover and the appropriate split is not clear, do not select an unsupported figure. Confirm your position with a registered tax agent.

Personal services income rules for consultants

If you are a consultant earning personal services income, or PSI, the PSI rules may limit the deductions you can claim in relation to that PSI.

This is a separate issue from whether PI insurance is a business expense. The ATO expressly warns that the PSI rules limit deductions relating to PSI when those rules apply. Being self-employed or having a PI policy does not remove that limit.

You need to check:

• Whether you earn PSI.
• Whether the PSI rules apply to you.
• How the PI premium is treated under those rules.

If the interaction between your consulting income and the PSI rules is unclear, a registered tax agent should assess your position before you claim the premium.

Expenses relating to non-assessable income

You cannot claim an expense that relates to earning income that is not assessable.

Therefore, if the PI expense relates to non-assessable income, the general business expense rule does not support a deduction for that amount. The ATO specifically identifies expenses relating to non-assessable income as non-deductible.

This is separate from the private-use rule. An expense can fail because it is private or because it relates to non-assessable income.

The GST component

You cannot claim a deduction for the GST component of a purchase if you can claim that component as a GST credit on your business activity statement.

Apply this rule conditionally. If a GST component has been charged and you can claim it as a GST credit, do not also claim the same GST component as a business expense. This rule does not mean you should assume that every PI premium includes GST or apply a particular GST amount. The transaction and your GST credit position determine whether the rule applies.

Your expense record should contain the relevant GST information so you can show whether the GST component was treated correctly.

Records and documentation you need

You are legally required to keep records of transactions relating to your tax, superannuation and registration affairs as you start, run, sell, change or close your business. This includes documents related to your business income and expenses.

For each transaction, the record must contain:

• The date.
• The amount.
• A description.
• The relevant GST information.
• The purpose of the transaction.
• The relationship between the parties, if relevant.

For a PI premium, your record should clearly identify professional indemnity insurance and show its business purpose. Keep your certificate of currency with the expense records so you can identify the cover to which the premium relates.

If the premium relates to both business and private use, keep clear documents showing the business portion and how you apportioned the expense. The ATO specifically requires records showing how mixed-use expenses have been apportioned.

How long you must keep records

You must keep most business records for five years. The five-year retention period generally starts from the later of:

• When you prepared or obtained the record.
• When you completed the transaction or act to which the record relates.

Do not calculate the period only from the premium payment date. Apply the later start date identified in the ATO rule.

Your records must also be in English or able to be easily converted into English.

Failure to comply with the record-keeping requirements can have legal and financial consequences.

Why a PI deduction claim can fail

A tax deduction claim can be refused or limited when:

• You cannot show that the premium was for your business.
• You claim the whole premium even though it includes private use.
• Your apportionment is not fair and reasonable.
• You do not have records showing the business portion.
• The expense relates to non-assessable income.
• The PSI rules limit the deduction.
• You claim a GST component that you can claim as a GST credit.
• You cannot support the general timing rule for the deduction.
• Your records do not contain enough information to substantiate the transaction.

The central problem is usually whether you can prove the expense’s business purpose and amount. The word “professional indemnity” on the policy identifies the type of insurance, but it does not replace the deduction tests.

Your deduction checklist

Before claiming your PI premium, make sure you can answer “yes” to the following:

• Was the premium incurred for your business?
• Does it relate to earning assessable income?
• Is the policy wholly for business use, or does it include private use?
• If it is mixed, have you worked out only the business portion on a fair and reasonable basis?
• Do the PSI rules affect you?
• Does any part of the expense relate to non-assessable income?
• Can you claim any GST component as a GST credit?
• Do your records show the date, amount, description, GST information and business purpose?
• Have you kept the records for the required period and kept them in English or in a form that can be easily converted?

When to see a registered tax agent

This article is general information, not tax advice. It explains the ATO’s general rules but cannot determine your individual position. You should confirm your position with a registered tax agent, particularly if:

• Your policy includes both business and private cover.
• You are unsure how to apportion the premium.
• You earn PSI as a consultant.
• Part of your income is not assessable.
• You can claim GST credits.
• Your payment timing or records are unclear.
• You are an employee asking whether an employer-paid premium is deductible.
• You need advice for an incorporated practice.

The ATO itself advises people seeking tailored advice about their tax and super needs to speak to a registered tax agent.

ATO sources

• Deductions for other operating expenses
• Business deductions
• Business expenses: Know what you can (and can’t) claim
• Overview of record-keeping rules for business

Sources

• Deductions for other operating expenses | ATO
• Business deductions | ATO
• Business expenses: Know what you can (and can't) claim | ATO
• Overview of record-keeping rules for business | ATO