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Xiaxue’s lipstick tax: Clarity needed on taxing sponsored products

If Xiaxue received a free sample product (say a lipstick) in exchange for writing a review, must she report the lipstick as part of her income? If a food blogger is invited to enjoy a free meal in exchange for writing a review, should he later have to pay the taxman a fraction of the value of the meal? The answer, according to the Inland Revenue Authority of Singapore (IRAS) of Singapore, is a confusing yes-no-maybe.

Is it fair to tax bloggers?

IRAS recently released a memo informing bloggers and social media influencers that they have to report gains and profits from their online activities because they are considered self-employed. Accordingly, they are subject to the same income taxes as all other self-employed individuals. Just as tuition teachers, fitness instructors and even baby-sitters have to pay their income taxes, so too must bloggers. This bit is uncontroversial. What has riled up bloggers is the idea that they might be taxed for receiving benefits-in-kind—things like sponsored products and food tastings.

There are certainly good reasons for taxing non-monetary forms of payment. After all, transactions involving benefits-in-kind are simply forms of barter trade; ignoring such transactions would merely create an easily exploitable loophole. But what happens when the freebies are not peripheral but central to what the blogger does? What happens if the free meal or sample product is not so much a reward for writing a review as it is an integral part of the review process? IRAS has yet to provide a proper answer.

These questions are not unique to blogging. Film critics who receive free tickets to review films and plays; food critics who are offered free meals; travel writers who go on all-expense-paid trips; are these writers taxed for receiving these freebies? If not, why apply a different standard to writers who work individually and who adopt an internet medium? What is the guiding principle here?

Should sponsored products be tax exempt?

IRAS has not been particularly helpful in this regard. In its memo, it brusquely said: “You can claim expenses incurred against this source of income provided the expenses are incurred wholly and exclusively in the production of the income under section 14 of the ITA [Income Tax Act] and not prohibited under section 15 of the ITA.” That’s over 30,000 words of what reads like a manual on how to build your own spaceship. (See here)

Understandably, bloggers like Wendy Cheng (a.k.a. Xiaxue) and Alvin Lim have subsequently criticised IRAS for failing to clarify whether review products may be exempted. This is unfortunate because all IRAS had to do was explain a simple principle that is stated on its website—as long as the expense was incurred in the course of earning an income, bloggers can claim it as an allowable business expense. They can then subtract this expense from the income they earned. This essentially means that if the review product qualifies as an allowable business expense, it will not be taxed.

Indeed, this explanation was tersely reflected in a Straits Times report. The problem, however, is that in this report, IRAS appears to have contradicted itself, not once but twice. First it said that Xiaxue’s lipstick would be taxed if it was all she received for writing the review. Then, it said it would not be taxed if Xiaxue was paid for the article. Later, ST reported it as having said: “Only things like accounting and administrative fees or advertisement costs are considered expenses.” Yes-no-yes. What? Marshmallow-Pinocchio-Tomato?

This is like the proverbial lightbulb screwed on too tight by one too many bureaucrat. It will take several accountants and a few lawyers to unscrew this one, at least two of whom (a partner at Ernst & Young and another at Deloitte) have asked IRAS to do the unscrewing itself, in exceedingly polite terms of course.

There may nonetheless be a way out of this mess. Allow me to offer four suggestions.

Explain the rules

First, IRAS needs to explain how the general rules governing allowable business expenses apply to sponsored products and food tastings that bloggers receive. Under the Income Tax Act, allowable business expenses are expenses “wholly and exclusively” incurred in the course of earning an income. As explained by Singapore Law, this means that “expenses are deductible if expended in the process of producing income.”

“The words ‘wholly and exclusively’ suggest that dual purpose expenses are not deductible. Therefore expenditure incurred by a solicitor in purchasing a notebook computer and a briefcase are not deductible as these items are capable of other uses not connected to the production of his or her income.”

Of course, this is also subject to the following consideration: “The object of the taxpayer in making the payment must be distinguished from the effect of the payment. A payment may be made exclusively for the purpose of the trade even though it also secures a private benefit, provided the securing of the private benefit was not the object of the payment but merely a consequential and incidental effect of the payment.”

In other words, Xiaxue’s lipstick may be taxed if she obtains the lipstick in order to use it after she has written her review; but it may also be exempted if her subsequent use of the lipstick is just a negligible side effect. In short, while the legal tests are clearly defined, applying them to sponsored products will be quite tricky.

Adopt a coherent approach

Second, IRAS needs to exercise a more coherent approach towards determining when something is tax deductible. There are two scenarios in the hypothetical lipstick case. In Scenario A, Xiaxue is only paid with lipstick, nothing else. In this scenario, IRAS says that the lipstick would be taxed. In Scenario B, Xiaxue is paid with lipstick and money. In this scenario, IRAS says that the lipstick would not be taxed.

This means that Xiaxue would be taxed if lipstick was all she received, but not if she was paid for the article in addition to lipstick. In other words, no tax if you are paid, tax if you are not paid. This is illogical. If IRAS considers the lipstick a (non-monetary) payment that forms part of Xiaxue’s income, why is it not taxed? If the lipstick is tax deductible, why is it taxed if that is all Xiaxue receives?

In this case, it appears that IRAS has misapplied the law, leading to a contradiction. In Scenario A, a tax is imposed, presumably because the expense cannot be said to have been incurred in the course of earning an income if no income is earned. The problem, obviously, is that if no income is earned, no tax can be imposed. In any case, if the lipstick forms part of Xiaxue’s income, clearly an income has been earned. This mistake makes one wonder: if the taxman himself doesn’t understand the tax code, how can he expect bloggers to?

In Scenario B, IRAS says that the lipstick is tax deductible. However, it later says that Xiaxue cannot claim expenses for the lipstick because “only things like accounting and administrative fees or advertisement costs are considered expenses”. This is, again, contradictory. It is also inconsistent with the note at the end of IRAS’ memo which says: “The scenarios on IRAS’ website are non-exhaustive.” Clearly the question is how general rules should be applied to sponsored products. Rather than stick to inflexible rules fastidiously, IRAS needs to consider how the general rules should apply to a growing group of self-employed individuals.

Apply the rules consistently

Third, IRAS needs to adopt a more consistent approach towards self-employed people. If employees working in a media company are not taxed for the non-monetary benefits they receive, neither should the self-employed. Unless there’s a compelling reason for treating self-employed people differently, doing so would be discriminatory.

Make an exception for hobbyists

Finally, IRAS should consider making an exception for hobbyists who have no intention of profiting from their activity. Kenneth Lee, a food blogger at 5meanders says: “I call myself a hobbyist because I don't actually earn income. Declaring food tastings as ‘profit’ or ‘gain’ is an issue for people like me because we end up losing more than we gain if we even gain anything at all.” Although a free meal may constitute “income” in tax terms, it makes little sense in layman’s terms. Is it really fair to tax bloggers like Lee who are not in it for the money?

In addition, the public interest is arguably better served by allowing content creators like Lee to continue providing virtually free advertising for small businesses and new start-ups. Lee points out taxing bloggers would make them “think twice about working with small businesses.”  Certainly, having to pay income taxes for a free meal on top of writing a free review is likely to deter aspiring food critics. The onerous requirement of record keeping is unlikely to help either. Is the tiny increase in government revenue worth the cost to small businesses?

Conclusion

In conclusion, while there are sound reasons for taxing non-monetary payments, sponsored products and food tastings which adhere to the general rules for allowable business expenses should generally be exempted. To this end, IRAS needs to clarify the rules and apply them coherently and consistently. It should not discriminate against self-employed people and it should consider making an exception for hobbyists who provide low-cost advertising for small businesses.