Edited version of private advice

Authorisation Number: 1051513408931

Date of advice: 11 July 2019

Ruling

Subject: Deduction of legal expenses

Question

Are you entitled to a deduction for legal expenses incurred in maintaining your registration?

Answer

No.

This ruling applies for the following periods:

Year ended 30 June 20xx to 30 June 20xx

The scheme commences on:

1 July 20xx

Relevant facts and circumstances

You commenced employment.

An incident in the workplace occurred involving yourself and patients.

The Ombudsman received a complaint (first complaint) from your employer regarding the incident.

As a result of the incident you resigned from your employment.

You were required to be registered with the state and national body.

The national body imposed conditions onto your registration, stipulating you could not practice without supervision.

You employed legal services who have since acted on your behalf for all matters regarding your registration.

You commenced legal action against the national body through the state courts disputing the conditions applied to your registration which you won.

The national body removed all conditions on your registration.

You gained employment in the same role however with a new employer.

The national body refiled a case against you regarding the first complaint with an internal ethics tribunal and conditions were applied to your registration.

The conditions applied to your registration obtained no end date and stipulated that you were unable to practice without supervision and were required to complete a 12 month mentorship.

You continued to practice under supervision as per the conditions on your registration.

You commenced the required mentorship.

Your new employer lodged a complaint (second complaint) against you with the national body.

The national body imposed conditions onto your registration due to the second complaint.

The national body did not follow the correct process when applying conditions to your registration, specifically not allowing you the opportunity to respond to the second complaint prior to the decision and imposition of conditions onto your registration.

You contacted the national body to dispute the process and had the national body revoked the conditions applied to your registration due to the second complaint.

You completed the required mentorship.

You applied to the national body for registration without condition and were unsuccessful.

The conditions on your registration in relation to the first complaint were revoked and conditions in relation to the second complaint were imposed.

The conditions imposed on your registration in relation to the second complaint required you to procure ABC and XYZ to undertake treatment as per their recommendation and provide reports to the national body.

All expenses associated with compliance of these conditions were your responsibility.

The conditions of your registration changed. You were still required to undertake the treatment of a XYZ and ABC as per their recommendation and provide reports to the national body. The change in conditions stipulated you could now practice again, however under supervision.

You were unable to procure supervision in your current workplace.

Your new employer requested you leave the premises until further notice and have since been on leave without pay.

You have had to undergo many medical examinations as well.

You are still in the process of undertaking legal action against the national body regarding your registration.

You have incurred approximately $X in legal fees and medical examination costs as a result of defending your registration.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 8-1,

Income Tax Assessment Act 1997 section 8-1(1)

Income Tax Assessment Act 1997 section 51(1)

Reasons for decision

Summary

You are not entitled to a deduction under section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997) for legal expenses incurred in defending your right to practice in your profession.

Detailed reasoning

Section 8-1 of the ITAA 1997 allows a deduction for all losses or outgoings to the extent to which they are incurred in gaining or producing assessable income, or are necessarily incurred in carrying on a business for that purpose. However, where the outgoings are of a capital, private or domestic nature, or relate to the earning of exempt income they will not be deductible (subsection 8-1(2) of the ITAA 1997).

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. 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.

The courts, on a number of occasions, have determined legal expenses to be an allowable deduction if the expenses arise out of the day to day activities of the taxpayer's business or income earning activities (Magna Alloys & Research Pty Ltd v. Federal Commissioner of Taxation 80 ATC 4542; (1980) 11 ATR 276). The action out of which the legal expenses arise has to have more than a peripheral connection to the taxpayer's business or income earning activities. The expense may arise out of litigation concerning the taxpayer's professional conduct. (Putnin v. Federal Commissioner of Taxation (1991) 27 FCR 508; 91 ATC 4097; (1991) 21 ATR 1245 and Elberg v. Federal Commissioner of Taxation (1998) 82 FCR 440; 98 ATC 4454; (1998) 38 ATR 623).

However if the expenses were incurred in protecting the underlying profit yielding structure or assets of the business they are considered to be capital in nature and will not be deductible.

In Case V140 88 ATC 874; AAT Case 4596 (1988) 19 ATR 3859 ( Case V140 ), a solicitor was denied a deduction for legal expenses incurred in defending certain allegations before the Statutory Committee of the Law Society of New South Wales, concerning the solicitor's trust account. The Committee ordered the taxpayer be suspended from practice for a period of twelve months, and to pay the costs of the Law Society. The Administrative Appeals Tribunal (AAT) held that the payments made by the taxpayer were not deductible under subsection 51(1) of the Income Tax Assessment Act 1936 (ITAA 1936) as the payments were characterised as capital expenditure.

Further, in Case X84 90 ATC 609; AAT Case 6528 (1990) 21 ATR 3721 (Case X84 ), the AAT held that legal expenses incurred by a medical practitioner in defending charges brought against him at a Medical Disciplinary Tribunal inquiry, were not deductible under subsection 51(1) of the ITAA 1936 because the expenditure was incurred to protect a structural asset, that is, their registration as a medical practitioner, and was of a capital nature.

In you circumstances, the legal fees did not arise out of the day to day carrying on of your income earning activities. The expenses were incurred in defending disciplinary proceedings held to review your right to continue practising in your profession. Your right to practise is part of the profit yielding structure of your income earning activity, and legal expenses incurred in protecting that structure are of a capital nature.

As a result, you are not entitled to a deduction under section 8-1 of the ITAA 1997 for the costs incurred in defending your right to practice in your profession.

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