Edited version of private advice

Authorisation Number: 1012690142293

Ruling

Subject: Back pay and legal expenses

Question 1

Are you required to declare the lump sum back pay in the 2013-14 financial year?

Answer

Yes.

Question 2

Are you entitled to a deduction for legal expenses?

Answer

No.

This ruling applies for the following period

Year ended 30 June 2014

The scheme commenced on

1 July 20XX

Relevant facts

You were an employee in retail sales.

You were suspended effective immediately without pay as the company believed you did not have any working rights to work in Australia even though you had lived in Australia for more than 50 years.

Your employer stated that they would not reinstate you until you had appeared in the Immigration Department System.

You sought legal advice seeking re-instatement.

You were subsequently reinstated and your employer paid you pack pay for the period that you had been stood down.

The period you were stood down was mainly in the relevant financial year and you received the lump sum back pay in the subsequent financial year.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 8-1

Income Tax Assessment Act 1997 Section 6-5

Reasons for decision

Income

Section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997) provides that the assessable income of a person, who is an Australian resident, shall include the ordinary income derived by the person from all sources during the income year. Income received as back pay is considered to be ordinary income for the purpose of section 6-5 of the ITAA 1997.

Pursuant to subsections 6-5(2) and (3) ordinary income is included in the assessable income of a taxpayer when it is derived by that taxpayer. Subsection 6-5(4) further provides that in working out whether you have derived an amount of ordinary income, and (if so) when you derived it, you are taken to have received the amount as soon as it is applied or dealt with in any way on your behalf or as you direct.

In your case, you are considered to have derived the full amount of back pay in the subsequent financial year and you are required to declare it as salary and wages in that year.

Legal expenses

Taxation Determination TD 93/29 Income tax: if an employee incurs legal expenses recovering wages paid by a dishonoured cheque, are these legal expenses an allowable deduction under section 8-1 of the Income Tax Assessment Act 1997? provides the Commissioners view on the deductibility of legal expenses incurred in relation to a wrongful dismissal action.  Paragraph 5 of TD 93/29 states that the expenses:

     will be deductible to the extent to which they relate to a claim for items of a

revenue nature such as unpaid salary or wages; but will not be deductible to the extent to which they relate to a claim for items of a capital nature such as damages for breach of contract of employment or for damages for wrongful dismissal.

The Courts, Boards and Tribunals have consistently held that legal expenses incurred by taxpayers in seeking to regain their employment following dismissal are not deductible. The expenses have been incurred too early to be regarded as having been incurred in gaining or producing the taxpayers' income from that employment. The purpose of the expenditure is to re-establish an income stream or for gaining an enduring benefit, that is, the reinstatement of the employment position.

The deductibility of legal expenses incurred in relation to an action for unfair dismissal was considered in Case L26 79 ATC 126; 23 CTBR (NS) Case 32. In that case, the taxpayer was employed as a music teacher by the Commonwealth Teaching Service. She was dismissed from her employment as a school teacher on the ground that she could not control classes. She unsuccessfully appealed to the Disciplinary Appeal Board against her dismissal. The taxpayer claimed a deduction for her legal expenses in relation to the appeal. It was held that the expenditure was a necessary step prior to regaining income from the employment from which the taxpayer had been dismissed but it was not expenditure incurred in the course of gaining or producing such income. Thus, the expenditure was not deductible.

You incurred legal expenses after being suspended from your employment. As with the case above, your expenses were incurred in regaining your employment. Likewise, your legal expenses are not deductible as they are capital in nature.