Edited version of your private ruling

Authorisation Number: 1012501883612

Ruling

Subject: Medical and legal expenses

Question

Are you entitled to a deduction for the legal costs and other expenses incurred?

Answer

Yes.

This ruling applies for the following period

Year ended 30 June 2013

The scheme commenced on

1 July 2012

Relevant facts

You are an employee.

A dispute occurred between you and your employer over a safety issue in the workplace. Due to the issue you were unable to adequately perform your duties.

You sought legal advice to help resolve the safety dispute between you and your employer.

You incurred legal and other expenses as part of the dispute.

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.

A number of significant court decisions have determined that for an expense to be an allowable deduction:

· it must have the essential character of an outgoing incurred in gaining assessable income or, in other words, of an income-producing expense (Lunney v. FC of T; (1958) 100 CLR 478 (Lunney's case)), 

· there must be a nexus between the outgoing and the assessable income so that the outgoing is incidental and relevant to the gaining of assessable income (Ronpibon Tin NL v. FC of T, (1949) 78 CLR 47), and

· it is necessary to determine the connection between the particular outgoing and the operations or activities by which the taxpayer most directly gains or produces his or her assessable income (Charles Moore Co (WA) Pty Ltd v. FC of T, (1956) 95 CLR 344; FC of T v. Hatchett, 71 ATC 4184).

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. Also, in determining whether a deduction for legal expenses is allowable 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.

Legal expenses are generally deductible if they arise out of the day to day income earning activities of the taxpayer (Herald and Weekly Times Ltd v. Federal Commissioner of Taxation (1932) 48 CLR 113; (1932) 39 ALR 46; (1932) 2 ATD 169 (the Herald and Weekly Times Case)) and the legal action has more than a peripheral connection to the taxpayer's income producing activities (Magna Alloys and Research Pty Ltd v. FC of T 80 ATC 4542; (1980) 11 ATR 276).

In FC of T v. Rowe (1995) 31 ATR 392; 95 ATC 4691, the taxpayer, an employee, was suspended from normal duties and was required to show cause why he should not be dismissed after several complaints were made against him. A statutory inquiry subsequently cleared him of any charges of misconduct or neglect. The court accepted that the legal expenses incurred by the taxpayer in defending the manner in which he performed his duties, in order to defend the threat of dismissal, were allowable. Since the inquiry was concerned with the day to day aspects of the taxpayer's employment, it was concluded that his costs of representation before the inquiry were incurred by him in gaining assessable income.

Taxation Ruling TR 2000/5 states that expenses incurred by an employee to settle a dispute with their current employer over their employment conditions are incurred in earning assessable income and are therefore generally deductible.

In Inglis v. FC of T 87 ATC 2037; and Case V116 88 ATC 737; AAT Case 4502 (1988) 19 ATR 3703, an employee incurred legal expense in defending additional conditions and controls their employer imposed on their employment duties. The Deputy President accepted that these expenses were incidental and relevant to the work which produced their assessable income and were not excluded from deduction as private or domestic expenditure.

In a High Court decision in Commissioner of Taxation v. Day [2008] HCA 53, (Day's case), Mr Day was charged with breaching the standards of conduct and failing to fulfil his duty as an officer. He was suspended without pay. It was found that the requisite connection with his assessable income was present and that he was exposed to the charges by reason of his office.

As highlighted in Days case, to establish the necessary connection to the employment or service which is productive of income, much will depend upon what is entailed in the employment and duties of the employee. Whether expenses are incurred in gaining or producing assessable income looks to the scope of the operations or activities and the relevance to any legal expenses incurred. The scope of a taxpayer's employment is a question of fact and degree.

The majority approach in Day's case was that an expense will satisfy the test outlined in paragraph 8-1(1)(a) of the ITAA 1997 if the occasion of the expense is found in whatever is productive of actual or expected income. It was indicated that a broad approach should be taken in determining what activities produced the actual or expected assessable income, and that it is not only the day to day tasks performed by the employee that gain or produce this income.

The significant factors affecting the decision in this case included the fact that the legal expenses were incurred in responding to action internal to the employment relationship and existed for no other purpose. The taxpayer in Days case was exposed to the action by reason of his employment and the consequences of the action only affected his employment.

Your case can be compared to Days case. You incurred legal expenses in undertaking legal action against your employer for an issue involving safety in the workplace. This issue affected your employment and your ability to adequately perform your employment duties.

In accordance with Day's case, your legal expenses are not considered to be private in nature as they were related to an issue that arose while carrying out your employment position. That is, the legal action arose as a result of your employment.

Accordingly, the legal expenses as well as the associated expenses you incurred have the requisite connection to your income earning activities and you are entitled to a deduction for these expenses under section 8-1 of the ITAA 1997.