Edited version of your written advice

Authorisation Number: 1012672065208

Ruling

Subject: Deductions and expenses

Are you entitled to a deduction under section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997) for any amount of extortion expenses that you incurred?

Answer

No

This ruling applies for the following period

Year ending 30 June 20YY

The scheme commenced on

1 July 20XX

Relevant facts and circumstances

The arrangement that is the subject of the private ruling is described below. This description is based on your private ruling application.

This document forms part of and is to be read with this description.

You hold an executive role in a large company.

You claim you were subject to extortion threats for a period of time.

The alleged extortionist ('X') approached you and stated that if you did not pay a large sum of money that X would approach your employer and the media and make certain claims.

You raised the funds and made some payments to X.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 8-1

Reasons for decision

Section 8-1 of the 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 outgoings are of a capital, private or domestic nature, or relate to the earning of exempt income.

For a deduction to be deductible it must be incidental or relevant to the production of the taxpayer's assessable income (Ronpibon Tin NL & Tong Kah Compound NL v. FC of T (1949) 78 CLR 47; (1949) 4 AITR 236); (1949) 8 ATD 431).

You have argued that the same principles of deductibility for legal expenses could be applied to extortion expenses.

Legal expenses are considered to be deductible if the expenses:

• arose from the duties that the taxpayer performs to derive his or her assessable income (FC of T v. Rowe (1995) 60 FCR 99; 31 ATR 392; 95 ATC 4691)

• arose out of, or concerns the day to day income producing activities of the taxpayer (Herald & Weekly Times Ltd v. Federal Commissioner of Taxation (1932) 48 CLR 113; (1932) 2 ATD 169 (Herald & Weekly Times Ltd))

• were not undertaken to protect the taxpayer's profit-yielding subject

• have more than a peripheral connection to the taxpayer's business and may arise out of litigation concerning the taxpayer's professional conduct (Magna Alloys and Research Pty Ltd v. FC of T (1980) 49 FCR 183: (1980) 11 ATR 276; 80 ATC 4542 (Magna Alloys); Putnin v. Federal Commissioner of Taxation (1991) 27 FCR 508; 91 ATC 4097; (1991) 21 ATR 1245).

The nature of the expenditure must be considered. In the case of legal expenses, the nature or character of the legal expenses follows the purpose of incurring the expense.

In Herald & Weekly Times Ltd, the Full High Court allowed the deduction as publishing the newspaper was both the source of income and the cause of liability, and the risk of libel was a regular and almost unavoidable incident or inherent risk of publishing.

It is clear that legal expenses may be deductible where they arise out of litigation concerning a taxpayer's professional conduct.

In the High Court decision in Federal Commissioner of Taxation v. Day [2008] HCA 53; (2008) 70 ATR 14; 2008 ATC 20-064 (Days case), Mr Day was charged with breaching the standards of conduct and failing to fulfil his duty as an officer. 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.

Of significance in Day's case was the fact that the legal expenses were incurred in responding to disciplinary action internal to the employment relationship and existing for no other purpose. For example, the Commissioner considers that the costs of defending criminal proceedings will rarely, if ever, be deductible. Costs incurred in defending criminal proceedings, in the Commissioner's opinion, are private expenses even when an employee is liable to be dismissed from employment on conviction.

Application to your circumstances

In your case, the alleged act of extortion was initiated by X and the expenses that you are seeking to claim were voluntary. You state that your purpose in making the extortion payments was to protect your employment from X's threats.

The extortion payments arose as a result of something that X alleges you did in the course of extraneous activity, not a normal part of your income-earning activity. As a consequence of the threats made by X (an external party), you made a private decision that was also not a normal incident of the day to day activities undertaken in the course of carrying on your role. In the Commissioner's opinion, the payments are private expenses even though you may have been liable to be dismissed from your employment as a result of the allegations.

Accordingly, the expenses do not have the requisite connection with gaining or producing your assessable income and are not deductible under section 8-1 of the ITAA 1997. Rather, we consider you made a private decision to make the payments that were directed towards preserving your reputation and putting an end to the threats and, as such, are expenses of a capital or private nature.

We have concluded on the facts provided that you are not entitled to a deduction for any amount of the extortion expenses.