The deductibility of extraordinary expenses

THE DEDUCTIBILITY OF EXTRAORDINARY EXPENSES IN LUXEMBOURG

In order to maintain a certain balance between all taxpayers, for whom the tax must remain within the limits of their contributive capacity, the Luxembourg legislator has an original approach to take into account part of the "extraordinary" expenses which may arise for a taxpayer following a life accident or a sudden financial obligation.

Section 127 of the LIR allows an abatement of taxable income based on the expenses incurred and the taxpayer's financial capacity under certain conditions.

The definition of "extraordinary expenses" in Luxembourg

Section 127 of the LIR provides that in order for an abatement of taxable income to be granted, the "extraordinary expense" faced by the taxpayer during the taxation year must meet 4 inescapable conditions:

• The burden must be extraordinary, i.e. the taxpayer has had to meet expenses not normally incumbent on the majority of taxpayers in a similar family and financial situation.
• The burden must be unavoidable, i.e. the taxpayer has suffered an event in their private life that has led to additional expenses from which they could not escape for material, legal or moral reasons.
• The expense must considerably reduce the taxpayer's ability to pay. Article 127 specifies the "normal expense" in terms of income. Depending on the taxpayer's family situation and taxable income, a percentage of the taxpayer's tax capacity known as the "normal expense" has been established which does not give rise to a tax deduction. Only the excess part is deductible. However, the taxpayer's financial situation which must be taken into account to determine the extraordinary nature of the expense has not been quantified by law.
• The taxpayer must apply for an allowance for extraordinary expenses.

The main "extraordinary expenses"

These charges can be divided into 3 categories:

• Expenses related to illness, in the broadest sense of the term
• Expenses related to an obligation of education (descendants) or maintenance (ascendants)
• Large, sudden and unpredictable expenses

The law has also provided for the possibility (Grand-Ducal regulation) of setting flat-rate allowances for certain extraordinary expenses. To date 2 regulations have been established:

• one relating to the costs of domestic service, the costs of assistance and care due to a state of dependency and the costs of childcare: €300 per month.
• the other concerning invalidity or disability costs: from €150 to €1,455 per year depending on the reduction in working capacity.

These costs are not necessarily limited by the flat rate determined by the regulations - this flat rate may be replaced by the deduction determined by the calculation (see below) if it is more favourable.

1- Expenses related to illness

The most common of these expenses are, of course, the costs of illness, assistance and care necessitated by the taxpayer's state of dependency, domestic services or medical assistance (flat-rate deduction possible in the last three cases), which are not or are very poorly reimbursed by an illness fund or supplementary health insurance fund. Under certain conditions, spa treatment costs, dietary costs and funeral expenses may also be classified as extraordinary expenses. Finally, deductions can be made for invalidity or disability expenses (flat-rate deduction possible). 

Expenses related to a legal or moral obligation                                            

It is obvious that the taxpayer has an obligation to maintain, educate and train their children, and the corresponding normal expenses have been taken into account in the tax scale and the child allowance (art 122 LIR). However, an exception has been made for childcare and domestic service costs, which are particularly high in Luxembourg and can be considered an 'extraordinary expense'. They may also be deductible at a flat rate (see above). 

The Civil Code provides for a maintenance obligation for certain parents and relatives if they are in need. Maintenance expenses thus incurred are deductible as "extraordinary expenses" to the extent that they correspond to actual needs.

2- Large, sudden and unpredictable expenses

This category includes, among other things, costs related to divorce proceedings or the costs of a criminal trial.

In addition to the costs related to divorce proceedings (court costs or lawyer's fees), the maintenance payments decided by a judgment issued before 1/01/1998 are deductible as "extraordinary expenses". Those occurring after this date (introduction of Article 109 bis of the LIR) are deductible as special and capped expenses (€24,000 in 2014). Alimony paid to or for the children of a divorced couple for their education and training regarding whom the taxpayer no longer has custody are also deemed "extraordinary expenses".

Note also that the costs of a criminal trial (if the taxpayer has been acquitted) fall into the category of "extraordinary expenses".

Calculation of the deductible expense

The deductible expense is the difference between the costs incurred for the "extraordinary expense" in question and the taxpayer's ability to pay.

This option depends both on the taxpayer's family situation and their taxable income. The table below gives the percentage to be applied to taxable income in order to determine contributive capacity.

Example

Let’s take the example of a taxpayer, Mr. Epinard, married and father of two children, who must appear before the Court of Assizes for a vague matter of morals in which he is wrongly accused. Mr. Epinard is innocent, and the Court finally agrees and acquits him. However, Mr. Epinard had to spend €10,000 (documentation costs, lawyer’s fees, etc.) to get himself out of this situation.

Mr. Epinard, who has a taxable income of €55,000 (before taking into account the costs related to the criminal trial), has, according to the above table, a tax capacity of 4%, i.e. €2,200. Since in the same year he suffered an "extraordinary expense" of €10,000, the expense deductible from his taxable income will be €7,800 (€10,000-€2,200).