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Edited version of your written advice
Authorisation Number: 1013064156451
Date of advice: 6 October 2016
Ruling
Subject: Deductibility of damages
Question
Are you entitled to a deduction for costs incurred in settling action taken against you?
Answer
Yes.
This ruling applies for the following period
Year ended 30 June 2015
The scheme commences on
1 July 2014
Relevant facts and circumstances
You were employed by a company.
You were a directory or company secretary for a large number of companies related to your employer.
There were no specific director's fees or any other specific remuneration for sitting on these boards.
Legal action was brought against you and others in relation to your actions as a director.
Following protracted legal negotiations a settlement was agreed between the disputing parties.
You were liable and incurred costs to settle the action taken against you.
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 and outgoings to the extent to which they are incurred in gaining or producing assessable income except where the losses or outgoings are of a capital, private or domestic nature.
An outgoing is considered to be incurred in gaining or producing assessable income if:
• At the time, you owe a present money debt you cannot escape (Taxation Ruling TR 97/7).
• There is a sufficient connection between the outgoing and the activities which produce or are expected to produce assessable income (Ronpibon Tin NL v. FC of T (1949) 78 CLR 47).
• The loss or outgoing arises out of the day to day income earning activities of the taxpayer (Magna Alloys & Ltd v. FC of T 80 ATC 4542; (1980) 11 ATR 276).
• It is incurred in gaining or producing the assessable income of the taxpayer who incurs it (FC of T v Munro (1926) 38 CLR 153).
In FC of T v. Rowe (1995) 60 FCR 99; (1995) 31 ATR 392; 95 ATC 4691, the court accepted that legal expenses incurred in defending the manner in which a taxpayer performed his employment duties were allowable. The activities which produced his income were what exposed him to the liability against which he was defending himself.
Timing of expenses
The Full Federal Court ruled that the High Court decision in AGC (Advances) Ltd v FC of T established the principle that where a business expense is incurred in the gaining or producing of assessable income generally, the fact that the expense is incurred in a year subsequent to the derivation of income, and the fact that in the meantime the business may have ceased, will not determine the issue of deductibility. The Full Federal Court stated that:
'provided the occasion of a business outgoing is to be found in the business operations directed towards the gaining or production of assessable income generally, the fact that outgoing was incurred in a year later than the year in which the income was incurred and the fact that in the meantime business in the ordinary sense may have ceased will not determine the issue of deductibility. There is no relevant distinction to be drawn between losses and outgoings. Provided the occasion for the loss or outgoing is to be found in the business operations directed to gaining or producing assessable income, that loss or outgoing will be deductible unless it is capital or of a capital nature.'
Whilst the above involve taxpayers carrying on a business, it is considered that principles established can apply equally to taxpayers who are employees.
Application to your circumstances
We accept that the directorship was part of your employment duties and that the remuneration you received was also for acting as a director of various entities. We consider there is a nexus between the expense and your previous income earning activities and that the expense is not capital in nature.
Therefore you are entitled to a deduction under section 8-1 of the ITAA 1997 for the costs incurred to settle the legal action brought against you.
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