No business is immune to complaints; some of them will be justified and some not, but often the result is a payment to a disgruntled or awkward customer, or possibly to a third party who claims that you or your employee caused them a loss of some sort. You may also have to pay an employee compensation, perhaps for an injury suffered at work.
Customers
In most cases where a customer makes a claim for faulty goods it’s straightforward, compensating them for repairs, the costs of repairing the goods themselves or providing a replacement should present no tax problem. The same is true of consequential loss: it may be annoying when you have only supplied a £5 component but if a court, or your lawyer tells you that you have to settle a claim for consequential loss you should be able to claim the cost in full as a deduction.
The acid test is that you incur the cost for the purposes of the business, not necessarily that the liability arose out of the business but claims do usually stem from things done in the course of business. The first thing to do is make sure your insurance covers the claim: to the extent that it does, you will not have to meet the cost, but if your insurance does pay out, do not put the claim through as a business expense. And if your insurance policy carries an excess, you can claim that excess as an expense.
The situation is usually clear-cut if a claim goes to court and you are ordered to pay compensation, but what about claims that are not clear? You may believe that you aren’t in the wrong, but if you find yourself under-insured, you’re faced with a potentially huge legal bill, or if the costs of fighting a claim in terms of publicity or your own lost time are too great to risk you may find yourself swallowing your pride and settling a claim you don’t think is justified. Even then, you should be able to claim the cost of paying compensation, including settling the claimant’s legal costs, if the damages arose from the business and you consider it necessary to pay the claim to prevent the business being lost or destroyed. HMRC cannot use the argument that you should not have paid a claim that was dubious if you genuinely believe that there is a risk to your business and your purpose in paying the claim is to preserve the business.
Allowable expenses are not restricted to those that are ‘wholly and exclusively’ incurred in the course of running the business day-to-day.
Employees
Compensation to employees, e.g. for injuries suffered in the normal course of work will be allowable and you do not have to treat any payment to an employee for injury as wages subject to PAYE and NIC.
Keep it legal!
One case where you will not be able to claim the cost of damages is if they are awarded as a punishment, so if a court rules that you have broken the law and makes a compensation order or orders punitive damages, you are unlikely to get the claim past HMRC.
Practical Tip:
Don’t wait until after the case before you claim. If your year-end is approaching and you’re sure you will have to pay compensation, make provision for the expected cost when you prepare your accounts: if the cost is ascertained you can claim for payments you are going to have to pay but haven’t paid out yet.
