Adjusted profit for companies: allowed and disallowed expenses, donations and interest limits

A company’s profit and loss account is built for shareholders. The tax computation is built for the revenue, and the two give different profits. Depreciation is charged in the accounts but is never allowed for tax. A donation may be allowed only up to 10% of profit. Interest paid to a foreign parent may be capped at 30% of earnings. Fines are never allowed.

The adjusted profit is the accounting profit after these corrections, and every later step, from loss relief to the total profit, starts from it.

This topic covers the expenses that are allowed and disallowed, donations, research and development, waivers and recoveries, the interest restriction, tax borne for others, expenses incurred in earning exempt income, and the format of the adjusted profit. The previous topic covered the principles of company income tax. The next covers loss relief.

Key terms in plain English

Syllabus check

This topic is in syllabus area D, company taxation. It covers:

• allowable and disallowable expenses
• donations, research and the interest restriction
• the format of adjusted profit

CAMA 2020 and adjusted profit

The Companies and Allied Matters Act 2020 (CAMA 2020) is the company law of Nigeria. The sections below apply to this topic.

The rules in more depth

Allowable expenses

Only expenses incurred wholly, exclusively, necessarily and reasonably in producing the profit are allowed. Examples in the Act:

• interest on debt borrowed and used as capital to earn the profit, subject to the seventh schedule;
• rent and premium for land or buildings used to earn the profit; where a building houses employees, the rent allowed is limited to 100% of the basic salary of those employees;
• salaries, wages, benefits and allowances for senior staff and executives, within limits set by a collective agreement approved by the Federal Ministry of Labour;
• repairs and renewal of premises, plant, machinery, fixtures, implements and utensils;
• bad debts proved bad in the period and specific provisions for doubtful debts;
• research and development, including the levy to the National Science and Technology Fund;
• dividends or mandatory distributions of an approved real estate investment company;
• compensating payments qualifying as interest made by a lender to its approved agent or borrower in a regulated securities lending transaction;
• expenses of a prior period that are specifically referable to the current one;
• other deductions the Minister prescribes.

Donations (section 25)

1. They must be to funds, bodies or institutions in the Fifth Schedule.
2. They must be made out of profit; they may not increase a loss or turn a profit into a loss.
3. They must not be of a capital nature, except to a university, other tertiary institution or research institution.
4. They must not exceed 10% of total profit before the donation. For a tertiary or research institution, the limit is 15% of total profit or 25% of tax payable, whichever is higher.
5. Cash or in-kind donations to a government fund or agency for a pandemic, natural disaster or other emergency are allowed at cost, with documents, up to 10% of assessable profit after other allowable donations.

Research and development

A reserve made from the profits of the period for research and development is deductible, up to 10% of the total profit before the reserve. A company doing research for commercialisation gets a 20% investment tax credit on qualifying spending.

Waivers, refunds and recoveries

Included in profit: any income waived, released or refunded for a liability or expense that was allowed before; and sums recovered on bad debts previously written off, or on specific provisions for doubtful debts previously allowed.

Disallowable expenses (section 27)

• capital repaid or withdrawn, and capital expenditure;
• sums recoverable under insurance or indemnity;
• taxes on income or profits, except foreign tax on profit that is also taxed in Nigeria with no double tax relief;
• depreciation, replaced by capital allowances;
• any expense with a related party outside the transfer pricing rules;
• expenses of earning exempt income, losses of a capital nature and expenses allowable under the Capital Gains Tax Act;
• compensating payments by a borrower, or by an approved agent, in a regulated securities lending transaction;
• penalties prescribed by an Act of the National Assembly for breach of a statute;
• tax or penalty borne for another person (for example, withholding tax a company pays on behalf of its landlord, while the net rent itself remains allowed).

The interest restriction (section 24 and the seventh schedule)

For interest or similar costs on debt issued by a foreign connected person, the amount deductible is limited to 30% of EBITDA (earnings before interest, tax, depreciation and amortisation) of the Nigerian company for the period. Banks and insurers that are subsidiaries of foreign companies are excluded, but the rule applies to Nigerian banks and insurers that pay interest to a foreign subsidiary.

The excess is carried forward and deducted in the next assessment years within the same limit, but not for more than five assessment years after the year it first arose. A breach attracts a 10% penalty plus interest at the Central Bank monetary policy rate plus a spread. The rule works alongside the transfer pricing regulations and does not replace them.

“Connected persons” are persons under common control, ownership or management, persons who get an explicit or implicit guarantee for matching debt, and related parties under the transfer pricing regulations. Interest on gas utilisation loans is no longer deductible by special approval since the Finance Act 2019; it must meet the interest rule, the WREN test and relate to taxable income.

Expenses of earning exempt income

Where one expense serves taxable and exempt income, only the part for taxable income is allowed: income assessable ÷ (income assessable + exempt income) × total expense.

The format

Applying the WREN test to common items

Why a general provision fails and a specific one passes

A specific provision is made for a named debt that the company has good reason to think will not be paid. A general provision is a percentage of all debtors, as a precaution. The law allows only the first, because the second is a reserve out of profit and not an expense that has been incurred.

When the exam says “allowance for doubtful debts based on 20% of debts over nine months old”, it is describing a general provision. The answer is to add it back, unless the question says the amount relates to specific named debts.

A debt written off as bad is allowed when it is proved to be bad, and a recovery of it in a later period is taxable income of that period.

Capital or revenue: the repair test

Ask whether the work restores an asset to its former condition or gives it something it did not have. Patching a roof, replacing worn parts and repainting restore, and are allowed. Building a new wing, adding a floor, installing air conditioning where there was none, or buying a better machine give something new and are capital.

Where a bill mixes the two, split it, allow the repair and add back the capital part, which then qualifies for capital allowances as part of the cost of the asset.

Items that increase the profit

Some adjustments increase the profit and are easy to miss:

• income waived or released for a liability that was allowed before
• recoveries of bad debts written off
• a refund of an expense allowed earlier
• income not recorded in the accounts but taxable

They are added to the profit.

Profits and losses of a capital nature, such as the profit on sale of a building or the loss on sale of shares, are taken out or added back so that they do not affect the tax profit.

Transfer pricing and related parties

An expense paid to a related party, such as management fees, royalties or interest to a parent or affiliate, is allowed only to the extent that it is consistent with the transfer pricing regulations. The test is whether an independent party would have agreed to the same price.

A charge above that price is disallowed, and the revenue can also adjust the profit of a company whose dealings with a connected person are artificial. In an exam question, any related-party charge calls for a comment on the arm’s length test, and the interest on debt from a foreign connected person needs the 30% EBITDA test as well.

1. Deduct non-taxable income: profit on sale ₦1,500,000 and franked dividend ₦2,000,000 = ₦3,500,000. The bad debt recovery stays in because it is taxable.
2. Add back: depreciation ₦5,000,000, general provision ₦800,000, fine ₦200,000 and the capital part of repairs ₦300,000 = ₦6,300,000.
3. Donations: the limit is 10% of profit before the donation.
   Profit before donation is ₦40,000,000 − ₦3,500,000 + ₦6,300,000 + ₦3,000,000 = ₦45,800,000, so the limit is ₦4,580,000, and ₦3,000,000 is allowed in full.
4. Adjusted profit.
   ₦40,000,000 − ₦3,500,000 + ₦6,300,000 = ₦42,800,000.

1. Add back depreciation.
   ₦800,000 + ₦2,500,000 = ₦3,300,000.
2. Deduct profit on sale.
   ₦3,300,000 − ₦600,000 = ₦2,700,000 adjusted profit.
3. A company whose accounts show a loss may still have an adjusted profit, because depreciation is added back, which is why the loss in the accounts is not the tax loss.

Reading an exam question on adjusted profit

A typical question gives an income statement with a dozen lines and a list of notes. The efficient method is to read the notes first and mark each line as add back, deduct, allowed, or limit. Then build the computation in the order of the format: the net profit, deductions of non-taxable income, additions of disallowed expenses, and the working for each limit below.

Show the donations working even if the answer is that the full amount is allowed, because the marks are for the method. Finally say in a line what the adjusted profit is, and that it is the starting point for loss relief and capital allowances.

Staff costs and rent in more detail

Salaries, wages and other remuneration, with benefits in kind and allowances for senior staff and executives, are allowed within the limits set by the collective agreement between the company and its employees, as approved by the Federal Ministry of Labour. Pay above those limits, or pay to a director that is out of line with the work, is open to challenge as not reasonable.

Rent of a building occupied by employees as housing is allowed only up to 100% of their basic salary, so a company that rents a flat for a manager at ₦4,000,000 a year, where his basic salary is ₦3,000,000, may deduct only ₦3,000,000 and adds back ₦1,000,000.

Interest in general

Interest on money borrowed and used as capital to earn profit is allowed, subject to the seventh schedule. It is not allowed if the loan financed something that produces exempt income, in which case it falls under the apportionment rule, or if it is a private loan of a shareholder or director. Interest on a loan obtained for a gas project no longer has special treatment since the Finance Act 2019.

The loan interest must satisfy the WREN test, relate to taxable income and comply with the 30% EBITDA rule where the lender is a foreign connected person.

Real estate investment companies and securities lending

A real estate investment company approved by the Securities and Exchange Commission may deduct the dividends or mandatory distributions it pays to its shareholders, because its own dividend and rent income is exempt where it distributes at least 75% within 12 months.

In a regulated securities lending transaction, the compensating payments are treated by their nature: payments that qualify as interest made by a lender to its approved agent or borrower are deductible, while compensating payments by a borrower or an approved agent that qualify as dividends or interest are disallowed to the payer, because the receiver gets them as franked investment income. The adjustments are made line by line in the computation.

Pandemic and emergency donations

A company that gives cash or goods to a government fund or designated agency for a pandemic, disaster or other emergency may deduct the cost of the goods it gave, or the cost of procuring or making them, with documents to prove it, and the deduction in a year is limited to 10% of assessable profit after other allowable donations.

This is a separate limit from the 10% on ordinary donations, so a company can claim both, each against its own base.

Keeping the working simple

1. Start with the net profit.
2. Go down the accounts line by line and mark each as allowed, add back or deduct.
3. Where a figure is mixed, split it into its two parts.
4. Do the limit workings (donations, research, interest, exempt-income share) at the foot of the page.
5. Total the adjustments and state the adjusted profit.

The position from 2026

Under the Nigeria Tax Act 2025 the 4% development levy is charged on assessable profits, meaning tax profits before deducting tax depreciation and losses. The Act repeals the Companies Income Tax Act and sets out the deductions in its own sections. Use the rules above for periods ending before 1 January 2026, the periods that the Pathfinder marking guides cover.

Worked examples

1. EBITDA = ₦1,000,000 + ₦1,250,000 + ₦300,000 = ₦2,550,000.
2. Interest qualifying.
   ₦1,250,000 − ₦200,000 = ₦1,050,000.
3. 30% × ₦2,550,000 = ₦765,000, which is lower than ₦1,050,000, so the deduction is ₦765,000.
4. The excess of ₦285,000 is carried forward, for not more than five years.

1. Allowed = ₦1,400,000 ÷ ₦2,000,000 × ₦250,000 = ₦175,000.
2. The other ₦75,000 is added back.

1. The net rent of ₦1,000,000 is deductible.
2. The ₦100,000 remitted on behalf of the landlord is added back as tax borne for another.

1. The limit is 10% × ₦8,000,000 = ₦800,000.
2. Allowed ₦800,000; add back ₦400,000.

1. Deduct the non-taxable profit on sale: ₦2,000,000.
2. Add back ₦6,000,000 + ₦100,000 + ₦900,000 + ₦500,000 = ₦7,500,000.
   The specific bad debt stays allowed.
3. Adjusted profit.
   ₦25,000,000 − ₦2,000,000 + ₦7,500,000 = ₦30,500,000.

How to score full marks

• Lay out two lists: add back, and deduct.
• Give a reason in a few words for every adjustment.
• Compute limits (donations, interest) in a working.
• Check the facts for recoveries and waivers that increase profit.

Common mistakes in the exam

• Allowing depreciation.
• Allowing a general provision for bad debts.
• Applying the 10% donation limit to profit after the donation.
• Applying the interest limit to local loans.
• Forgetting to add back tax and fines.

Quick revision

• Allowed only if wholly, exclusively, necessarily, reasonably incurred.
• Donations 10%; research 10%; interest 30% of EBITDA.
• Add back depreciation, capital, fines, tax, general provisions.

Practice questions

Questions 1 to 10 are multiple choice. Questions 11 to 13 are written. Try each before opening the answer.

Model answers

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