What Are Stewardship Expenses and Are They Deductible?
How a parent company classifies costs related to its subsidiaries determines their tax deductibility. Explore the key distinction between oversight and services.
Stewardship expenses are costs a parent company incurs while managing its investments in subsidiary entities. These are not payments for direct services rendered but are instead associated with the parent’s oversight of its capital. This distinction is meaningful for a company’s financial strategy and tax position, as it governs how these corporate-level costs are treated.
Understanding Stewardship Activities
Stewardship activities are undertaken for the parent company’s own benefit as an investor. These actions are geared toward protecting and overseeing its investment in a subsidiary, not to provide a direct operational benefit to the subsidiary itself. The core of stewardship is that the expense relates to the parent’s role as a shareholder.
Costs associated with the parent company’s board of directors meetings held to review the financial performance of its various subsidiaries are considered stewardship. Expenses for consolidating financial reports from all subsidiaries to prepare the parent’s public filings with the Securities and Exchange Commission (SEC) fall into this category.
Other common stewardship costs include certain legal and accounting fees incurred at the parent level, such as legal work related to the initial acquisition or ongoing legal structuring of the subsidiary relationship. High-level financial analysis performed by the parent company’s chief financial officer for oversight purposes, rather than for direct operational input, also qualifies. These activities are often duplicative of work the subsidiary might do for its own purposes.
Tax Treatment and Deductibility Rules
Expenses classified as stewardship are not deductible by the parent company against its own income. This rule is grounded in a tax principle that expenses incurred to produce tax-exempt income are not deductible. This concept is outlined in Internal Revenue Code (IRC) Section 265.
A parent company’s primary financial return from owning stock in another company is dividends. Under the U.S. tax code, corporations may be entitled to a dividends-received deduction (DRD), which can exclude a significant portion of dividend income from the parent’s taxable income. Because stewardship activities protect the investment that generates this tax-favored dividend income, the related expenses are disallowed under IRC Section 265.
This creates a conflict with IRC Section 162, which permits deductions for “ordinary and necessary” business expenses. While a parent’s oversight is an ordinary part of its business, the specific link between stewardship costs and tax-exempt dividend income gives IRC Section 265 precedence. The result is that these oversight-related expenses cannot be used to reduce the parent company’s taxable income.
Distinguishing Stewardship Costs from Chargeable Services
Differentiating non-deductible stewardship costs from deductible services that can be charged to a subsidiary is a frequent challenge. The distinction lies in who primarily benefits from the activity and whether the subsidiary would need to pay for that service from a third party if the parent did not provide it. Chargeable services are specific, identifiable functions performed by the parent company for the direct benefit of the subsidiary’s operations.
For example, if the parent’s centralized accounting department handles the subsidiary’s monthly bookkeeping, processes its payroll, and closes its books, these are chargeable services. The subsidiary receives a direct operational benefit it would otherwise have to perform itself or outsource. In contrast, when the CFO reviews a subsidiary’s financial data to prepare a presentation for the parent company’s investors, this is a stewardship activity.
This same logic applies to legal and tax functions. If the parent’s in-house legal team drafts a commercial sales contract for the subsidiary to use with one of its customers, the service is chargeable. A duplicative review of a subsidiary’s completed tax return by the parent’s tax director for oversight is stewardship. However, if the parent’s tax department actively prepares and files the subsidiary’s income tax return, that is a chargeable service.
Methods for Allocation and Documentation
Companies must implement clear methods to separate stewardship and chargeable expenses to withstand scrutiny during a tax audit. A common method is time tracking, where employees who perform both oversight and direct service functions maintain detailed timesheets or activity logs. These records specify how much time was spent on tasks that benefit the parent versus those that directly support a subsidiary.
Direct identification is another method for costs not related to employee time, like software licenses or travel expenses, which can be assigned based on their specific purpose. The goal is to create a transparent trail that justifies the classification of each intercompany expense. The Internal Revenue Service requires proof to support the deduction of intercompany service charges. This includes:
- A written intercompany agreement that defines the scope of the services, the allocation method, and the basis for the pricing.
- Regular, detailed invoices issued to the subsidiary for the chargeable services.
- Updated organizational charts that delineate which departments perform oversight versus those that provide centralized services.
- Functional analyses that describe the roles and responsibilities within the corporate group.