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Ruling

Subject: Work related expenses - legal fees

Question:

Are you entitled to a deduction for legal fees to the extent of pursuing your unfair dismissal action?

Answer:

No.

This ruling applies for the following period:

1 July 2011 to 30 June 2012

Relevant facts and circumstances

This ruling is based on the facts stated in the description of the scheme that is set out below. If your circumstances are materially different from these facts, this ruling has no effect and you cannot rely on it. The fact sheet has more information about relying on your private ruling.

You were unfairly dismissed from your previous employer.

You incurred legal expensed in fighting the dismissal.

You took legal advice on how to proceed with a claim against your former employer in order to receive further pay, or reinstatement.

Obtaining reinstatement to your position was not an option.

You entered into a reconciliation process and the settlement was in your favour.

You were awarded 6 weeks pay, paid as an employment termination payment (written up as an eligible termination payment), less applicable tax and a Statement of Service.

You were required to pay your legal team 30% of your settlement.

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 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.

Employment Termination Payment

An Employment Termination Payment (ETP) is capital in nature because it is a payment made to compensate you for the loss of your employment position (Case Y24 91 ATC 268; AAT Case 6942 (1991) 22 ATR 3184). 

ETPs are subject to special tax treatment that may result in some or all of the amount being included in your assessable income.

The fact that a capital payment is specifically brought to account as assessable income will not change the nature of the payment. An amount that is capital in nature will remain capital notwithstanding that it is specifically included in your assessable income.

Legal Fees 

For legal expenses to constitute an allowable deduction, it must be shown that they were incidental or relevant to the production of your assessable income.

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.

Taxation Determination TD 93/29 states

If the legal action goes beyond a claim for a revenue item such as wages, and constitutes an action for a breach of the contract of employment, the legal costs would not be deductible because they are capital in nature. For example, legal expenses relating to an action for damages for wrongful dismissal are not deductible.

Application to your circumstances

You have undertaken legal action to have your employment position reinstated after being wrongfully dismissed. The agreed settlement between you and the company was a sum of money paid as an ETP. The advantage sought by the action is the restoration of a capital asset, your means of producing income. 

Therefore, the payment received by you is capital in nature and consequently the legal expenses incurred in deriving this receipt are also capital in nature. Accordingly, no deduction is allowed for the legal expenses incurred by you.