Administrative Appeals Tribunal
R.N. Purvis J. (Presidential Member)
This review arises as a consequence of the Commissioner disallowing a claim for legal expenses to the applicant taxpayer in the 1984 financial year. The disallowance was on the basis of the expenditure being of a private nature and not incurred in the gaining or producing of his assessable income.
The applicant taxpayer is and was at all relevant times the secretary manager of a sporting club. A member of the club was badly injured in playing sport as a consequence of which an appeal was launched in aid of raising money sufficient to care for the member's needs. The applicant was appointed, with two others, as a trustee of the appeal fund.
In due course the member was interviewed on television. The interviewer made remarks referable to the fund and by imputation, so it was alleged, defamatory of the applicant and the other trustees. The trustees commenced proceedings in the Supreme Court of New South Wales against the interviewer and another seeking damages on account of the
ATC 622alleged defamation. A trial was held in relation to the proceedings and on appeal from the verdict a new trial has been ordered. The proceedings are thus still current.
It is in respect of the applicant's share of the legal costs incurred in the year ended 30 June 1984 referable to such proceedings that the present review arises.
The factual situation supportive of an alleged defamation
The applicant has been employed by the club for a period in excess of 20 years. His responsibilities as secretary manager extend, as one might envisage, to a general supervision of its operations and more specifically, to the conduct of its trading and investment activities and the maintenance and effective use of staff including several assistant managers. He is answerable to a board of management. The club has, over the years, embraced many more persons and has now a membership of approximately 35,000 individuals.
The applicant himself has, so he says, attained to a high profile in the club and in the club industry. He is now a Senior Vice-President of the Industry Association and has so been for a few years. Previously he was the holder of other positions.
Some time in about 1980 a member of the club was severely injured whilst playing competitive sport as a consequence of which he was permanently incapacitated, lost his earning capacity, and incurred measurable medical expenses. The applicant was concerned for the future of the member, met with the member's solicitor and was informed of a need in the sum of $250,000. The applicant reported this information to the board of management of the club, the latter then resolving to establish a fund for the benefit of the member. The board decided to forthwith donate $25,000 to the fund and to ask the applicant, the member's solicitor and a partner from the firm who conducted the audit of the club's financial affairs to be trustees of the fund.
It was said by the applicant that the club recognised an obligation that it had to the member, one of its own players and, that, he as secretary manager was an appropriate person to be appointed as one of the trustees, for as the chairman of the board of management said the applicant "was appointed a trustee as he held the position of secretary manager of the club". The trust or fund, the chairman said, was in effect synonymous with the club.
The structure of the fund and its objects seemingly were, after a period of time, altered, the amount sought to be raised being increased and the assistance afforded extended to members additional to the above-mentioned injured player for whom the fund was initially established. The board relied upon the applicant to administer the fund. He reported to the board from time to time as to its overall position, but the board was not involved "day to day". The accountants to the fund prepared the final accounts.
On a day in 1980 the injured member was interviewed on television and the existence of the fund and the receipt of benefits by the member from the fund was raised. On an occasion in the week following the matter was again raised by the same interviewer on television. It was stated by the interviewer that the injured member was not aware as to who the trustees were, that the use to which the money raised was to be put had been changed and that the member had not received the $250,000 or any measurable part of such sum.
Following the telecast the applicant received telephone calls, the callers expressing sentiments consistent with a concern as to whether misappropriation of moneys of the fund had taken place, and the applicant's possible involvement. The applicant's son said to him words to the effect of "Dad, it makes you sound like a crook"; his son and family were upset. The chairman of the board of management of the club saw the telecast. He said that to him it "cast a slur on the integrity of" the applicant. He knew the aspersions were not justified and that the applicant would have acted "perfectly correctly". The other board members he said also so knew. The applicant said that from his own point of view this situation could not go unanswered.
The proceedings and the nature of the allegations there made
The applicant consulted his co-trustee, the solicitor, as to whether a retraction could be obtained. Originally he said all that he wanted was to "get a full retraction and an apology and expenses". The "question was one of anger and frustration". He was very upset "at the inferences". His reputation was important to
ATC 623him in the future that he had planned for himself, namely "in the Management Consultancy Business for clubs".
The applicant taxpayer, with his co-trustees, commenced the relevant proceedings shortly thereafter it being, according to him, "the only course open to me".
The steps that he had taken in the matter were "reported to the board" by the applicant. The board, according to the applicant taxpayer, was "supportive" and did not itself take any action even such as calling for accounts of the fund or an accounting. The board was "concerned", but his taking action "probably forestalled the board asking for something to be done".
The chairman of the board of management said that the matter was discussed at board level, the board was "quite happy" with the applicant taking action and that the board considered that this was all that needed to be done "at that stage". He did not remember a resolution being passed. The chairman did say that he "always considered, and so did the board, that there would be doubt as to his integrity if no action had been taken". They were concerned as to what members might think. Yet members were not informed of the applicant's legal action nor did the board offer to assist in paying the applicant's legal costs. The board was satisfied as to there not having been a misappropriation.
According to the applicant, had he not taken action by way of commencing proceedings, then in his mind "it would have been open for people to think it was correct". He supposed that he was placed at some risk, not so much in fear of losing his job but "some members of the board were not on my side and they would have liked to have a reason to have something against me".
The applicant at the time of the telecast was also about to stand for a senior position with the Clubs Association and "his employment opportunities would be damaged in the industry". He wished, he said in evidence, then and now to remain in the club industry. He was concerned to vindicate his reputation in the community at large. He was not sure however that he became a party to the action on account of any harm or hurt to his feelings as a result of what people were saying; his family and friends "did not believe it".
The applicant did not feel that his employment position was "prejudiced" and he did not experience any change on a day-to-day basis in his employment conditions. There was not a threat of dismissal as a consequence of the telecast.
To the extent that it is relevant the defendants, being the interviewer and the owner of the television station, in due course filed a statement of defence in which it was alleged that there was truth in the interviewer's statements and the imputations. This, the applicant said, increased his anger and frustration, resulting in aggravated damages being sought by the plaintiffs although the applicant was "not too sure" as to whether the allegations of truth prompted him to maintain the action.
By their amended statement of claim the plaintiffs, including the applicant taxpayer, after reciting the happening, alleged that the matter complained of contained imputations defamatory of them and to the effect that:
- - the plaintiffs had misled the public as to how the moneys for the fund would be expended;
- - the plaintiffs acted with callous disregard for [the injured member's] personal welfare by failing to give him any adequate financial assistance from the... fund;
- - the plaintiffs had misappropriated moneys contributed to the... fund;
- - the plaintiffs had behaved disgracefully in the administration of the fund in relation to [the injured member].
It was further recited in the amended statement of claim that by reason of publication by the defendants of the matters complained of, that the plaintiffs had been injured in their credit, standing and reputation and had been held up to public odium, scandal and contempt. They claimed damages. They relied on the alleged falsity of each of the imputations and the failure of the defendants to withdraw the allegations and to apologise for them.
The legal fees and payment
The amount the subject of the present claim is $39,071. This sum represents one third of the accounts rendered for legal services and paid in the relevant year. So far as the applicant is concerned, the said amount was not paid by
ATC 624him. It was paid in part by a company, P. Pty. Limited and as to part by D. Pty. Limited as trustee for the D. Trust. The applicant did not maintain a personal bank account but had his salary as secretary manager of the club paid into the bank account of P. Pty. Limited.
The applicant taxpayer was a director of, and a shareholder in, P. Pty. Limited and had a loan account with it, the same being in debit or credit, depending on the movement of moneys at a particular time. The D. Trust was and is a family trust. The applicant had "a floating loan account" with D. Pty. Limited.
The general journal and printout of the general ledger of P. Pty. Limited were in evidence showing the accounting treatment referable to the proportion of the legal fees paid by it. The like records of the D. Trust were tendered. The payments made by the company and the trust were further to invoices having been received for legal fees. The amounts due were apportioned between the three plaintiffs as to one third each. Photocopies of cheques drawn to pay the fees and pass sheets of the bank accounts of the company and the trust were in evidence. Only some of the memoranda of fee of counsel and solicitor's invoices were said to be now available.
I am satisfied on the evidence before me that the expenditure the subject of the claim in the amount of $39,071 was in due course incurred on account of legal fees referable to the defamation action, even be it that all documentation is not now available. I am also satisfied that the payments represent expenditure actually made on account of the applicant be it through the company and the trust.
The applicant taxpayer incurred the expense and the same was paid on behalf of him. He was under an existing liability to pay the accounts and he caused them to be so paid (see
F.C. of T. v. Lau 84 ATC 4929 at p. 4940).
Claim made for "Other Expenditure Incurred in Earning Income" in income tax return for the year ended 30 June 1984
In a schedule to his income tax return for the year ended 30 June 1984 and in support of his claim referable to the legal fees, the applicant taxpayer stated:
"During the year the taxpayer commenced legal action to recover damages for defamation of character resulting from statements made concern the running of the [club] of which the taxpayer is the Secretary Manager.
The defamation action was required to be commenced in order to clear the taxpayer's name and reputation as his continued employment as Secretary Manager is dependent upon him retaining his reputation and standing within the [club].
Accordingly, the following expenses are claimed under section 51(1) of the Income Tax Assessment Act as being incurred directly in gaining or producing assessable income:Legal Fees re; action for defamation of character $39,071."
The claim as here structured was not in accord with the claim made at the hearing or the evidence. The statements made by the interviewer did not concern the running of the club. The applicant's employment as secretary manager of the club was never, on the evidence, at risk.
Section 51(1) of the Income Tax Assessment Act
The applicant claimed that the outgoing by way of legal expenses was a deduction allowable to him under sec. 51(1) of the Income Tax Assessment Act 1936.
Section 51(1) of the Act provides:
"51(1) All losses and outgoings to the extent to which they are incurred in gaining or producing the assessable income, or are necessarily incurred in carrying on a business for the purpose of gaining or producing such income, shall be allowable deductions except to the extent to which they are losses or outgoings of capital, or of a capital, private or domestic nature, or are incurred in relation to the gaining or production of exempt income."
The word "business" is defined in sec. 6(1) of the Act to include "any profession, trade, employment, vocation or calling, but does not include occupation as an employee".
Was then the outgoing by way of legal expenses incurred by the secretary manager in gaining or producing his assessable income, or necessarily incurred in carrying on a business for the purpose of gaining or producing such
ATC 625income? Was the outgoing of a private or domestic nature?
The two limbs of sec. 51(1) and their relationship with each other was considered in
John Fairfax & Sons Pty. Ltd. v. F.C. of T. (1958-1959) 101 C.L.R. 30 where at p. 40 Fullagar J. said:
"The two categories of s. 51(1) are clearly not mutually exclusive, and it has indeed been said that `in actual working' the addition of the second category `can add but little to the operation of the leading words `losses or outgoings to the extent to which they are incurred in gaining or producing the assessable income":
Ronpibon Tin N.L. and Tongkah Compound N.L. v. F.C. of T. (1949) 78 C.L.R. 47, at p. 56... The first is directed to expenditure incurred in the actual course of producing assessable income... It is, primarily at least, concerned with expenditure voluntarily incurred for the sake of producing income. Its scope is not, of course, confined to cases where the income is derived from carrying on a business. The second may be thought to be concerned rather with cases where, in the carrying on a business, some abnormal event or situation leads to an expenditure which it is not desired to make, but which is made for the purposes of the business generally and is reasonably regarded as unavoidable:"
At p. 49 Menzies J. said:
"Disregarding the application of the section [sec. 51(1)] to losses and considering the alternative head solely in its application to outgoings, there must, if an outgoing is to fall within its terms, be found (i) that it was necessarily incurred in carrying on a business; and (ii) that the carrying on of the business was for the purpose of gaining assessable income. The element that I think it necessary to emphasise here is that the outlay must have been incurred in the carrying on of a business, that is, it must be part of the cost of trading operations."
For expenditure to be an allowable deduction as an outgoing incurred in gaining or producing assessable income, it must be incidental and relevant to that end: Ronpibon Tin N.L. and Tongkah Compound N.L. v. F.C. of T. (supra) at p. 56;
F.C. of T. v. Total Holdings (Aust.) Pty. Ltd. 79 ATC 4279 at p. 4282. The phrase "incidental and relevant" when used in relation to the allowability of losses as deductions refers to their nature or character. "What matters is their connection with the operations which more directly gain or produce the assessable income."
Charles Moore & Co. (W.A.) Pty. Ltd. v. F.C. of T. (1956) 95 C.L.R. 344 at p. 351. It is sufficient for the purposes of the first limb of subsec. (1) of sec. 51 that the expenditure be incurred in relation to the management of the income-producing enterprise of the taxpayer. As to the second limb, it is clear that there must be a relation or nexus between the expenditure and the carrying on of the relevant business:
F.C. of T. v. Green (1950) 81 C.L.R. 313 at p. 319;
F.C. of T. v. Snowden & Willson Pty. Ltd. (1958) 99 C.L.R. 431; F.C. of T. v. Total Holdings (Aust.) Pty. Ltd. (supra) at p. 4282.
What then of the purpose for which the expenditure was incurred? In
Magna Alloys & Research Pty. Ltd. v. F.C. of T. 80 ATC 4542 at p. 4545 it was stated:
"Though references to motive and purpose are to be found in cases arising under sec. 51, neither motive nor either kind of purpose [subjective or objective] is a criterion of deductibility. The statutory criteria are expressed in the two limbs of sec. 51: `incurred in gaining or producing the assessable income', and `necessarily incurred in carrying on a business for the purpose of gaining or producing such income'. The purpose mentioned in the second limb is not a purpose imported by the phrase `incurred in carrying on', but the purpose of the business in the carrying on of which the deductible expenditure is incurred
The requirement in the second limb that expenditure be incurred in carrying on a business parallels the requirement in the first limb that the expenditure be incurred in gaining or producing the assessable income. In
A.G.C. (Advances) Ltd. v. F.C. of T. 75 ATC 4057; (1975) 132 C.L.R. 175 Mason J. said (at ATC p. 4072, C.L.R. p. 198):
- `Thus in the Ronpibon case... the Court stated that `to come within the initial part of the sub-section it is both sufficient and necessary that the occasion of the loss or outgoing should be found in whatever is productive of the assessable income'. So also it may be
ATC 626said that it is enough to satisfy the second part of the sub-section that the occasion of the loss or outgoing is to be found in the carrying on of a business for the production of assessable income.
Whether the assessable income against which expenditure is sought to be deducted is produced in the carrying on of a business or in some undertaking which does not constitute the carrying on of a business, the same kind of factors are material to deductibility."
The mental element referable to the incurring of the expense was discussed at pp. 4551-4552 where Brennan J. said:
"Given a sufficient identification of what the expenditure is for and the character and scope of the taxpayer's income-earning undertaking or business, the question whether expenditure is incurred for the purpose of carrying on a business or for the purpose of gaining or producing assessable income does not depend upon the taxpayer's state of mind. The relationship between what the expenditure is for and the taxpayer's undertaking or business determines objectively the purpose of the expenditure. In cases to which a reference to purpose is required or appropriate, objective purpose will be found to be an element in determining whether expenditure is incurred in gaining or producing assessable income or in carrying on business. If the purpose of incurring expenditure is not the gaining or producing of assessable income or the carrying on of a business, the expenditure cannot be said to be `incidental and relevant' to gaining or producing assessable income or carrying on business; or to be incurred `in the course of gaining or producing' assessable income or of carrying on a business; nor can the undertaking or business be seen to be `the occasion of' the expenditure."
In their joint judgment in Magna Alloys & Research Pty. Ltd. v. F.C. of T. (supra) Deane and Fisher JJ. at p. 4558 said:
"It is clear from the authorities that there are circumstances in which the subjective purpose or motive of the taxpayer will be of little assistance in determining whether an outgoing was necessarily incurred in carrying on a business... The subjective purpose or motive of a taxpayer either in incurring an outgoing or in engaging in an activity which attracts liability to make the outgoing is not however irrelevant to the question whether the outgoing was necessarily incurred in carrying on the relevant business."
And at p. 4559:
"The key to the role of the objective and subjective in such a formulation is, in the case of a voluntary outgoing, to be found in the statement of Fullagar J. in F.C. of T. v. Snowden & Willson Pty. Limited... namely, that `within the limits of reasonable human conduct the man who is carrying on the business must be the judge of what is `necessary". The controlling factor is that, viewed objectively, the outgoing must, in the circumstances, be reasonably capable of being seen as desirable or appropriate from the point of view of the pursuit of the business ends of the business being carried on for the purpose of earning assessable income. Provided it comes within that wide ambit, it will, for the purposes of sec. 51(1), be necessarily incurred in carrying on that business if those responsible for carrying on the business so saw it...
It is implicit in what has been said that the distinction between immediate direct purpose or object and remote indirect purpose or object does not play an essential part in determining whether an outgoing is properly deductible pursuant to the second limb of sec. 51(1) of the Act. To the extent that the subjective element is relevant, what is important in the case of a voluntary outgoing is the identification of the advantage or advantages which the outgoing was intended to achieve on behalf of the taxpayer regardless of whether that advantage or those advantages were seen as the direct result of the outgoing or as indirectly flowing therefrom or of whether the pursuit of them should be seen as `purpose' or as `object' or as `motive'. Business outgoings may be properly and necessarily incurred in pursuit of indirect and remote, as well as direct and immediate, advantages."
In the case here under review the taxpayer was not carrying out a business and can only rely upon the first limb of sec. 51(1). However,
ATC 627a consideration of the factors which are relevant to both limbs of sec. 51 are in aid of determining whether the outgoing by way of legal expenses can, in the relevant sense, be regarded as necessarily incurred. Indeed, the fact that the needs of an employer provide the occasion of an outgoing and that the resulting benefit to the employer constitutes a dominant motive of a taxpayer for incurring the outgoing does not of itself preclude the outgoing from being necessarily incurred in gaining or producing the assessable income for the purposes of sec. 51(1).
Thus, the question might well here arise as to whether the expenditure incurred was in aid of the taxpayer acting in the fulfilment of his office. As Kitto J. said in
F.C. of T. v. Finn (1961) 106 C.L.R. 60 at p. 69:
"It is, I think, a correct application of the terminology of s. 51 to say that he was engaged in `gaining' that salary whenever and so long as he acted in the fulfilment of his office; for the salary payable was his remuneration for everything comprised in or incidental to his service."
The conclusion reached in Finn's case was one arising from the particular facts of the case there under consideration (
F.C. of T. v. Maddalena 71 ATC 4161 at p. 4162; (1971) 45 A.L.J.R. 426 at p. 427;
F.C. of T. v. Hatchett 71 ATC 4184 at p. 4187; (1971) 45 A.L.J.R. 565 at p. 567).
As to whether legal expenses were incidentally incurred
Was the institution of the subject defamation proceedings and the taxpayer's expenses consequently incurred incidental then to the proper execution of his office and not otherwise? I think not. Whilst he became trustee of the fund by reason of his employment, the institution of the proceedings was not of itself incidental even to his position as a trustee. It was to maintain his personal reputation. His position as secretary manager and/or as trustee was not at risk.
It was put on behalf of the taxpayer that the action taken by way of institution of the proceedings was in aid of the preservation of his assessable income; that the purpose was contemporaneous with the earning of his income.
The question as to whether the legal expenses were actually incurred in gaining or producing assessable income is mainly one of fact: F.C. of T. v. Total Holdings (Aust.) Pty. Ltd. (supra) p. 4283. In the Ronpibon Tin case (supra) at p. 59 it was said:
"The question what expenditure is incurred in gaining or producing assessable income is reduced to a question of fact when once the legal standard or criterion is ascertained and understood. This is particularly true when the problem is to apportion outgoings which have a double aspect, outgoings that are in part attributable to the gaining of assessable income and in part to some other end or activity. It is perhaps desirable to remark that there are at least two kinds of items of expenditure that require apportionment. One kind consists in undivided items of expenditure in respect of things or services of which distinct and severable parts are devoted to gaining or producing assessable income and distinct and severable parts are devoted to gaining or producing assessable income and distinct and severable parts to some other cause. In such cases it may be possible to divide the expenditure in accordance with the applications which have been made of the things or services. The other kind of apportionable items consists in those involving a single outlay or charge which serves both objects indifferently. Of this directors' fees may be an example. With the latter kind there must be some fair and reasonable assessment of the extent of the relation of the outlay to assessable income. It is an indiscriminate sum apportionable, but hardly capable of arithmetical or ratable division because it is common to both objects.
In such a case the result must depend in an even greater degree upon a finding by the tribunal of fact."
The subject claim is to deduct legal expenses and legal expenses take the quality of an outgoing of a capital, private or domestic nature or on account of revenue, from the cause or the purpose of incurring the expenditure. I am, therefore, remitted to a consideration of the object in view when the legal proceedings were undertaken or of the situation which impelled the taxpayer to undertake them:
Hallstroms Pty. Ltd. v. F.C. of T. (1946) 72 C.L.R. 634 at p. 647.
In every case it is clearly a question of fact and degree whether the outgoing has the
ATC 628necessary relation to the gaining of assessable income (
F.C. of T. v. Forsyth 81 ATC 4157 at p. 4163). Has the taxpayer established a sufficient nexus between the outgoing and the employment? The expenses here which the taxpayer sought to deduct were incurred in legal proceedings commenced by he himself and others, to initially obtain an apology and recovery of expenses and latterly, the recovery of damages, including aggravated damages. The happenings which gave rise to the expenditure could not be regarded as normally to be expected in ordinary business transactions or to be resorted to as a matter of course by a secretary manager of a club working in the interests of his employer in the course of gaining or producing his personal assessable income. The expenses in issue were essentially private in nature and character. The need for them arose out of the taxpayer's reaction to what he saw as a slur upon his personal good name and reputation.
There is no evident connection between the expenditure in instituting and pursuing the proceedings and the taxpayer's earning activities as the secretary manager of the club. In these circumstances, there is no justification in concluding that the expenditure incurred was so incurred in deriving the taxpayer's assessable income, or were other than expenses of a private nature. The expenses were not incurred in gaining assessable income and even upon the basis upon which the secretary manager sought to establish the expenses as deductible, they were, so it seems to me, clearly enough of a capital or of a private nature. Indeed, in the alternative, the claim should be disallowed on the basis of it being of a capital nature expended in an endeavour to retain and restore his position as a leading figure in the sport management industry and with it a standing sufficient to pursue his own interest away from the club in the future.
Here it was submitted on behalf of the Commissioner that no action had been taken by the employer referable to the alleged defamation. The proceedings were by the taxpayer, he seeking to obtain damages for his injured feelings, including aggravated damages, the latter consequent on a defence of truth having been pleaded. The taxpayer sought to maintain his reputation in the club industry and the community and with the object of establishing himself in a business of his own some time in the future. The claim is of course made in the 1984 financial year but referable to words said in 1980.
Whilst it was said there may have been a perceived disquiet on the part of some members of the club, the statement by the secretary manager to the board that he was commencing proceedings seeking an apology was sufficient to this end. The concern of the board was not such as to warrant circulars or notices being provided to members. There was not any evidence of the taxpayer's employment being at risk. Indeed at the first hearing of the action (on appeal a new trial has been ordered), the taxpayer did not put to the jury any evidence or submission referable to a loss of his business reputation.
It was further submitted on behalf of the Commissioner that the other two plaintiffs in the action, the injured member's solicitor, and the club auditor, were not otherwise associated with the club and that there was not any evidence as to the purpose sought to be achieved by their being parties to the proceedings and of their continuing to be so. I accept the submission.
In my opinion, the taxpayer has not established sufficient nexus between the outgoing and his employment.
The taxpayer, in the event of the Tribunal concluding that the whole of the expenditure could not be allowed, sought to say that the same might be apportioned. No evidence was led as to a basis upon which such apportionment might ensue.
The Commissioner submitted that an apportionment was not appropriate in this case. Attention was drawn to what was said by the Full Court of the High Court in Ronpibon Tin N.L. (supra) at p. 60, referable to apportionment, namely:
"It is important not to confuse the question how much of the actual expenditure of the taxpayer is attributable to the gaining of assessable income with the question how much would a prudent investor have expended in gaining the assessable income. The actual expenditure in gaining the assessable income, if and when ascertained, must be accepted. The problem is to ascertain it by an apportionment. It is not
ATC 629for the Court or the commissioner to say how much a taxpayer ought to spend in obtaining his income, but only how much he has spent..."
However, I do not consider that the factual situation in evidence is such as to warrant an apportionment of any of the expenditure. I do not consider that the expenditure was incurred in the relevant sense, and even be it as to part, I do not have evidence sufficient to enable an appropriate division of the expenses to be made.
Although raised by notice in support of the objection, no evidence was led or submissions made referable to sec. 64A. The taxpayer was in occupation as an employee (sec. 6(1) of the Act).
For the reasons herein before given, I would uphold the Commissioner's decision on the objection and confirm the notice of assessment for the year ended 30 June 1984.