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Edited version of your written advice
Authorisation Number: 1013056993988
Date of advice: 21 July 2016
Ruling
Subject: Deduction - Legal Expenses
Question 1
Are the legal fees incurred by the trustee for Trust A in generating ordinary income deductible under section 8-1 of the Income Tax Assessment Act 1997?
Answer
Yes.
Question 2
Should the legal fees incurred, by the trustee for Trust A apportioned as a deduction between ordinary income and capital gain income?
Answer
Yes.
Question 3
Are the legal fees incurred by the trustee for Trust B in generating ordinary income deductible under section 8-1 of the Income Tax Assessment Act 1997?
Answer
Yes.
Question 4
Should the legal fees incurred by the trustee for Trust B apportioned as a deduction between ordinary income and capital gain income?
Answer
Yes.
This ruling applies for the following periods:
Year ended 30 June 2015
The scheme commences on:
1 July 2014
Relevant facts and circumstances
The family trust was controlled by a corporate trustee the shareholders of which were sibling A, sibling B, and sibling C and their parent who is deceased.
The family trust was set up by the parent and their late spouse, and on their death the equity of the trust was for the benefit of the three siblings equally.
The directors of the corporate trustee are sibling A and sibling C.
A dispute occurred when sibling A attempted to take control of the Trustee of the family trust, by assuming control of the estate of the late parent, contrary to the will.
Sibling A as director had been exercising the trustee's discretion to distribute the majority of the income of the family trust for their and their family benefits. Sibling A failed to distribute income equally for the benefit of the three siblings and their associated interests.
The trustee for Trust A and the trustee for Trust B each engaged in legal proceedings to have income distributed equally for the benefit of the three siblings and to remove the corporate trustee and to have a new trustee appointed.
The total legal fees spans across a time period from July 20XX to June 20XX.
The Court appointed a new trustee who distributed income and capital gains for the financial year ending 30 June 20XX equally for the benefit of interests associated with the three siblings.
The trustee for Trust A and the trustee for Trust B each received a 1/3 distribution and 1/3 of the capital gain from the family trust.
Relevant legislative provisions
Income Tax Assessment Act 1997 Section 8-1
Reasons for decision
Section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997) allows a deduction for all losses or outgoings to the extent to which they are incurred in gaining or producing assessable income, except where the outgoings are of a capital, private or domestic nature.
In determining whether a deduction for legal expenses is allowed under section 8-1 of the ITAA 1997, the nature of the expenditure must be considered. (Hallstroms Pty Ltd v. Federal Commissioner of Taxation (1946) 72 CLR 634; (1946) 3 AITR 436; (1946) 8 ATD 190)
The nature or character of the legal expenses follows the advantage that is sought to be gained by incurring the expenses. For example, if the advantage to be gained is of a revenue nature, then the expenses in gaining the advantage will also be of a revenue nature. If the advantage to be gained is of a capital nature, then the expenses incurred in gaining the advantage will also be of a capital nature. Therefore, to determine the deductibility of the legal expenses, it is necessary to consider the reason for which expenses were incurred.
In your case, you incurred legal expenses in taking legal action against the trustee in order to ensure an equal distribution of both revenue and capital proceeds amongst the beneficiaries. As such, the legal expenses were incurred for both revenue and capital income of the trust
This legal action has resulted in the receipt of ordinary income as well as a capital gain.
Therefore the legal fees should be apportioned between the ordinary income and the capital gain in order to deduct the legal fees under section 8-1 of the ITAA 1997
Taxation Determination TD 93/29 which considers the deductibility of legal expenses and how to apportion them, states at paragraphs 6 and 7:
There will often be occasions where the legal expenses are incurred in relation to proceedings that relate both to amounts that are revenue in nature as well as amounts which are capital in nature
Where the solicitor's account is itemised, one reasonable basis for apportionment would be the time spent involving the revenue claim, relative to the time spent on the capital claim. If the solicitor's account is not itemised, a possible basis for apportionment would be either a reasonable costing of the work undertaken by the solicitor in relation to the revenue claim, or, where this is not possible, an apportionment on the basis of the monetary value of the revenue claim relative to the capital claim.
In your case, a reasonable apportionment of the legal expenses incurred could be based on the amount of revenue and capital income received by each of the trusts.
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