Edited version of private advice

Authorisation Number: 1052177602269

Date of advice: 6 October 2023

Ruling

Subject: Deductions - legal expenses

Question

Is the portion of the legal expenses incurred in relation to you defending your entitlement to the bonus payments that you received from your employer deductible under section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes.Section 8-1 of the ITAA 1997 allows a deduction for a loss or an outgoing to the extent to which it is incurred in gaining or producing assessable income, except where the loss or outgoing is of a capital, private or domestic nature.

For legal expenses to constitute an allowable deduction, it must be shown that they are incidental or relevant to the production of the taxpayer's assessable income or business operations.

In your case, you received bonus payments in lieu of interest for making loans. You declared these bonus payments as assessable income. The legal expenses you incurred in order to defend your entitlement to that income are incidental and relevant to the earning of that income and therefore are deductible.

We agree with your view in your private ruling application that you will need to apportion your legal expenses to claim a deduction for the portion that was incurred in defending your entitlement to the bonus payments.

This ruling applies for the following periods:

Year ended 30 June 20YY

Year ended 30 June 20YY

Year ended 30 June 20YY

The scheme commenced on:

1 July 20YY

Relevant facts and circumstances

On DD MM 20YY, you commenced working for your employer.

In 20YY, employees were transferred to a related entity.

Around 20YY, your employer was experiencing financial difficulties and required additional funds to meet general cash flow obligations, legal costs and to meet existing loan repayments.

Person A was the sole director, secretary, and ultimate shareholder of the company.

In MM 20YY, you agreed to loan funds to your employer under a short-term loan agreement. This agreement was partly oral, partly in writing and partly implied.

The loan agreement outlined that you were to advance funds to your employer on an ad hoc basis as required. This involved drawing down funds from your personal home loan and other personal funds. These funds would then be advanced to your employer.

It was agreed that you would receive bonus payments in lieu of any interest until the principal was repaid in full.

The bonus payments were calculated to compensate and cover the costs of the risks involved in you drawing down on your personal funds and the fact that these were unsecured informal loans to your employer.

The bonus payments were paid to you via the payroll system in accordance with the terms of the loan agreement.

In MM 20YY, you lodged a formal workplace complaint as the circumstances surrounding your employment had gradually deteriorated.

After MM 20YY, your employer refused to pay you bonus payments.

In MM 20YY, your employer initiated legal proceedings against you. Your employer disputed some of the terms of the loan agreement, particularly the amounts payable as bonus payments, and argued that you had been overpaid.

In MM 20YY, you lodged a counter claim against your employer and argued that you were still owed money in accordance with the loan agreement.

On DD MM 20YY, your employment was terminated as the legal matter had not yet been settled.

The matter between you and your employer was eventually settled.

You incurred approximately $XXXX in legal expenses overall. These expenses have been paid.

Bonus payments received from your employer for making the loans are reflected on your payslips.

You declared the amounts of these bonuses as income in your income tax returns.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 6-5

Income Tax Assessment Act 1997 section 8-1

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