1012568680931 | Legal database

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Edited version of your private ruling

Authorisation Number: 1012568680931

Ruling

Subject: Expenses - legal

Question

Are legal fees the trust incurred in pursuing a claim for damages in relation to lost revenue deductible under section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes

This ruling applies for the following periods

1 July 2010 to 30 June 2013

The scheme commenced on

1 July 2010

Relevant facts

The trust was a partner in a partnership that owned and operated a business (the partnership).

X is a beneficiary of the trust.

The other partner was Y Pty Limited as trustee for a Family Trust (Y Trust).

An individual (Z) was employed by the partnership as manager of the business.

Z was also a beneficiary of Y Trust.

In the 2009-10 financial year, the trust acquired Y Trust's interest in the partnership.

This was on the basis that Z had breached Z's employment contract and the terms of the partnership deed,

The trust brought legal action against Y Trust and Z.

These proceedings predominantly related to compensation for loss of income/profits to the trust.

A copy of the Court judgment was provided with the application.

In respect of the subject claim the Court held that the trust was entitled to recover equitable compensation and damages for lost income.

The amount the Court awarded was based on the quantification of the trust's lost profits from the business.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 8-1.

Reasons for decision

The general deduction provision, section 8-1 of the ITAA 1997, allows a deduction for all losses and outgoings to the extent to which they are incurred in gaining and producing assessable income, except where the outgoings are of a capital, private or domestic nature.

In Hallstroms Pty Ltd v. Federal Commissioner of Taxation (1946) 72 CLR 634; (1946) 3 AITR 436; (1946) 8 ATD 190, the Court established that in determining whether a deduction is allowable, the nature of the expenditure must be considered. The nature or character of the legal expenses follows the advantage which is sought to be gained by incurring the expenses.

Legal expenses are generally deductible if they arise out of the day to day activities of your business (Herald and Weekly Times Ltd v. Federal Commissioner of Taxation (1932) 48 CLR 113; (1932) 39 ALR 46; (1932) 2 ATD 169) and the legal action has more than a peripheral connection to your income producing activities (Magna Alloys and Research Pty Ltd v. FC of T (1980) 49 FLR 183; (1980) 11 ATR 276; 80 ATC 4542).

Legal expenses incurred by a taxpayer in maintaining the amount of partnership income to which they were entitled was held to be revenue in nature and incurred in the course of gaining or producing assessable income (Creer v. Federal Commissioner of Taxation (1994) 28 ATR 442; 94 ATC 4454).

In your case, the occasion of the incurrence of the legal expenses referable to the subject claim arose out of seeking to maintain the amount of income to which the trust was entitled. Therefore, these legal expenses are revenue in nature and the trust is entitled to a deduction under section 8-1 of the ITAA 1997 for these legal expenses.

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