Edited version of your written advice

Authorisation Number: 1012747081667

Ruling

Subject: Income tax & reportable fringe benefits

Question 1

Would the purchase of compulsory medical insurance be a valid tax deduction under section 8-1 of the Income Tax Assessment Act 1997?

Answer

No

This ruling applies for the following periods:

1 July 200X to 30 June 20XX

The scheme commences on:

1 July 200X

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.

The taxpayer is an employee who was required to work overseas.

The taxpayer received benefits provided in two parts, the first being meals and accommodation, and the second part, medical insurance provided whilst overseas. The medical insurance was compulsory.

The taxpayer could not choose to eat at any other facility other than that provided, nor was there any other option for accommodation.

The medical insurance was similar to workers compensation. If the taxpayer required medical support whilst overseas, it was not provided by any insurance company.

The medical insurance is an expense payment fringe benefit.

The medical insurance was reported on the taxpayer's payment summary.

The high value of the insurance and thus the reportable fringe benefits had considerable consequences for the taxpayer's child support payments.

Relevant legislative provisions

Income Tax Assessment Act 1997, Section 8-1.

Reasons for decision

Summary

The purchase of compulsory medical insurance is not a valid tax deduction under section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997) to the employee, consequently, the 'otherwise deductible rule' under section 24 of the Fringe Benefits Tax Assessment Act 1986 (FBTAA) would not apply to reduce the taxable value to nil.

Detailed reasoning

Subsection 8-1(2) of the ITAA 1997 states that one cannot deduct a loss or outgoing under this section to the extent that:

(a) it is a loss or outgoing of capital, or of a capital nature; or

(b) it is a loss or outgoing of a private or domestic nature; or

(c) it is incurred in relation to gaining or producing your ^*exempt income or your ^*non-assessable non-exempt income; or

(d) a provision of this Act prevents you from deducting it.

This view is supported by Tax Determination TD 93/22 Income tax: is a professional sportsperson who is required to take out private health insurance entitled to a deduction for related contributions under subsection 51(1)?

This TD is targeted to professional sportspeople however the general principles may be applied in the case of personnel requiring private insurance as a condition of employment for a higher risk deployment.

The TD was developed in accordance with subsection 51(1) of the Income Tax Assessment Act 1936 (ITAA 1936) however this subsection is no longer applicable after 1997 (therefore reference is made in this ruling to the ITAA 1997).

The TD concludes that:

1. No. The contributions paid to a private health fund by a sportsperson are not deductible under subsection 51(1) of the Income Tax Assessment Act 1936 because:

(a)  the expense is of a private nature;

(b) the expense is not sufficiently connected to the sporting activity that produces that income; and

(c) the expense is a precondition to earning income. Lockhart J said in FC of T v Cooper 91 ATC 4396, (1991) 21 ATR 1616, "the deductibility of... [an expense]... depends upon determining the essential character of the expenditure itself and not upon the fact that, unless it is incurred, the taxpayer will not be able to engage in the activity from which his income is derived."

2. A deduction is not allowable whether or not the expense of private health insurance is a condition of employment.

This view was confirmed by the Administrative Appeals Tribunal (AAT) in AAT Case 8721 (1993) 27 ATR 1102; 51/93 ATC 542. This case concerned a player with a New South Wales rugby league club who claimed a deduction for his contribution to a health fund for comprehensive cover for hospital and medical expenses. It was a condition of his employment that he take out health insurance cover.

Deputy President Gerber, applying the decision of the Full Federal Court in FC of T v. Cooper 91 ATC 4396, (1991) 21 ATR 1616 (Cooper), held:

(a)   the particular expenditure was incurred in consequence of the income earning activity of the taxpayer rather than in gaining the assessable income, and

(b)   the essential character of the expenditure was of a private nature and, therefore, not deductible.

In the judgement Deputy President Gerber noted Hill J. in Cooper stated at ATC 4414:

The income-producing activities to be considered in the present case are training for and playing football. It is for these activities that a professional footballer is paid. The income-producing activities do not include the taking of food, albeit that unless food is eaten, the player would be unable to play. Expenditure on food, even as here additional food does not form part of expenditure related to the income producing activities of playing football or training

The Cowboys contend this view needs to be reviewed in light of the subsequent cases of FCT v. Edwards 94 ATC 4255 and Mansfield v. FCT 96 ATC 4001.

It is stated by the Cowboys that the Edwards case held, based on previous decisions, that the deductibility of the expenditure depended on the 'essential character' of the expenditure and that the taxpayer in that case was required to conform to a particular standard of dress essential for her to be able to derive her assessable income. The Cowboys contend that in a similar manner, the Cowboy's employees/players are contractually required to have private health insurance and it is an essential outgoing for employees/players in order to derive assessable income. Further, it is also contended by the Cowboys, that many of the Cowboy's employees/players would not have incurred the expenditure on health insurance had it not been a contractual obligation to do so.

Taxation Ruling TR 94/22, Income tax: implications of the Edwards case for the deductibility of expenditure on conventional clothing by employees, sets out the Commissioner's views on the effect of the Edwards case and it states (in the following extracted paragraphs):

6. The analysis on the facts starts with ascertaining what are the income earning activities and then determining whether a sufficient nexus exists between those activities and the expenditure. Outgoings will be deductible in whole or in part where there is a clear connection between the expenditure and the actual derivation of income. It is not sufficient that the expenditure on clothing is a prerequisite to the derivation of assessable income. It must contribute to the derivation of that income.

8. For expenditure by an employee to be deductible under the first limb of subsection 51(1) of the Act, the High Court of Australia has indicated that the expenditure 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 at 497-498). There must be a nexus between the outgoing and the assessable income so that the outgoing is incidental and relevant to the gaining of the assessable income (Ronpibon Tin N.L. v. FC of T (9149) 78 CLR 47). Consequently, it is necessary to determine the connection between the particular outgoing and the operations by which the taxpayer more directly gains or produces his or assessable income (Charles Moore & Co (WA) Pty Ltd v. FC of T (1956) 95 CLR 344 at 353, FC of T v. Cooper 91 ATC 4396 at 4403; (1991) 21 ATR 1616 at 1624; Roads and Traffic Authority of NSW v. FC of T 93 ATC 4508 at 4520; (1993) 26 ATR 76 at 91). Whether such a connection exists is a question of fact to be determined by reference to all the facts of the particular case. In most cases a sufficient connection will not exist between expenditure on conventional clothing and the derivation of assessable income by an employee taxpayer.

9. Nothing in the Full Federal Court's decision in the Edwards case changes the principles set out in paragraph 8. In fact the Court specifically stated that the decision does not establish a principle that clothing acquired for and worn at work will generally be deductible. The decision in the Edwards case is simply an example of a situation where, on the particular facts of the case, such a sufficient connection did exist. If an employee taxpayer incurs clothing expenditure in a directly similar way to Ms Edwards, a deduction is allowable for a proportion of the expenditure.

As stated in paragraph 9 of TR 94/22 the decision in Edwards case did not change the principles previously applied in Coopers case and by the AAT in case 8721. Both these decisions considered whether the expenditure had the essential character of an outgoing incurred in gaining assessable income and decided it did not. The decision in Edwards case did not affect these conclusions.

It is also stated by the Cowboys, that in the Mansfield case, the taxpayer was allowed deductions for hair conditioner, moisturiser, shoes and hosiery due to the specific (harsh) conditions under which flight attendants work. The Cowboys contend that similarly, the Cowboy's employees/players have a high risk of injury, a harsh condition of employment, necessitating private health insurance.

In the Mansfield case, it was said by Hill J (at pp4006-4008 96 ATC and p372 31 ATR):

To satisfy the positive requirement of s 51(1), Mrs Mansfield must show that each of the categories of expenditure to which reference has been made was incurred by her in, that is to say in the course of, gaining or producing her assessable income, that is to say, her salary. It is not necessary that she show a connection between the outgoing and salary of a particular year. What is significant is that she show a real connection between the expenditure and her activities as an employee, which activities are directed at her obtaining wages; cf FC of T v Smith 81 ATC 4114 at 4117; (1980-1981) 147 CLR 578 at 585. As I said in FC of T v Cooper 91 ATC 4396 at 4412; (1991) 29 FCR 177 at 197:

"the concept enshrined in the first limb of the sub-section, is one of the deductibility of working expenses."

To fall outside the exclusory limb of the section, Mrs Mansfield must demonstrate that the expenditure which she has incurred does not have the character of a private or domestic expense. As indeed for the purpose of deciding whether the positive limb of the sub-section is satisfied, it is necessary to look at the essential character of the expenditure: Cooper at ATC 4402; FCR 184 per Lockhart J and at ATC 4412; FCR 197 per Hill J.

The relevant authorities are discussed in the judgments in Cooper and need not be extensively repeated here. Cooper, it will be recalled, was a case where a professional footballer sought a deduction for expenditure on what he said was additional food which he consumed to combat weight loss during the football season. The Court, by majority, disallowed the deduction. The case is important in emphasising that the fact that expenditure is required to be incurred by an employee will not necessarily bring about deductibility.

Ultimately, the reason Mr Cooper failed to obtain a deduction was that there was not the necessary nexus between the increased consumption of the relevant items and Mr Cooper's activity of playing professional football. The character of the expenditure was thus neither relevant nor incidental to the actual activities which gained him the assessable income, namely, the training for and the playing of football matches. As Lockhart J observed (at ATC 4403; FCR 185):

"The taxpayer was paid money to train for and play football, not to consume food and drink. His income producing activities did not include the consumption of food and drink."

I turn now to look at the particular items of expenditure in the light of these cases and the principles of law which are discussed in them and in the cases to which they refer.

In my view, expenditure for moisturiser, the necessity for which was brought about by the harsh conditions of employment which Mrs Mansfield was called upon to endure, is incidental and relevant to her occupation as a flight attendant. It has the necessary connection with her activities in the cabin itself. It is these activities which are directly relevant to her gaining and producing assessable income by way of salary.

It is particularly critical for a flight attendant that he or she be well groomed and presented at all times. This is a requirement of the airline itself and there are obviously good reasons for it. The need for grooming is recognised in the Award under which Mrs Mansfield worked by the provision to her of an allowance. It is recognised in the training courses which she undertook, in the daily and monthly assessments of grooming and in the annual performance review.

As the cases indicate, the mere fact that a particular expenditure may be required to be made by the employer, while relevant will not be determinative of deductibility. The additional feature present in the present case is the fact that the occasion of the expenditure is to be found in Mrs Mansfield's working in the cabin, that is to say, in the dehydration brought about by pressurisation of the cabin at altitude.

Although the Court held the particular items had the necessary connection with the income producing activities it also did not change the principles previously applied in Coopers case and by the AAT in case 8721.

Taxation Ruling TR 96/16, Income tax: work-related expenses: deductibility of expenses on compulsory uniform shoes, socks and stockings, sets out the Commissioner's views on the deductibility of such items worn as part of a compulsory uniform following the decision in the Mansfield case and it states (in the following extracted paragraphs):

10. For expenditure by an employee to be deductible under the first limb of subsection 51(1), the High Court of Australia has indicated that the expenditure must have the essential character of an outgoing incurred in gaining assessable income or, in other words, of an income-producing expenses (Lunney v. FC of T (1958) 100 CLR 478 at 497-498). There must be a nexus between the outgoing and the assessable income so that the outgoing is incidental and relevant to the gaining of the assessable income (Ronpibon Tin NL v. FC of T (1949) 78 CLR 47). Consequently, it is necessary to determine the connection between the particular outgoing and the operations by which the taxpayer more directly gains or produces his or her assessable income (Charles Moore & Co (WA) Pty Ltd v. FC of T (1956) 95 CLR 344 at 349-350; FC of T v. Cooper 91 ATC 4396 at 4403; (1991) 21 ATR 1616 at 1624; Roads and Traffic Authority of NSW v. FC of T 93 ATC 4508 at 4521; (1993) 26 ATR 76 at 91). Whether such a connection exists is a question of fact to be determined by reference to all the facts of the particular case.

11. Nothing in the decision in Mansfield's case changes the principles set out in paragraph 10 above. In most cases, a sufficient connection will not exist between expenditure on shoes, socks and stockings and the derivation of income by an employee taxpayer, and the expenditure will be private in nature. The decision in Mansfield's case is simply an example of a situation where, on the particular facts of the case, the Court found, not without some doubt, that a sufficient connection did exist such that the expenditure was work-related and not private in nature.

It is considered, therefore, that the decisions in both the Edwards case and the Mansfield case merely re-affirm the following long-standing propositions concerning the deductibility of outgoings:

a) Deductibility depends on the application of the relevant sections of the ITAA 1936 or the ITAA 1997 to all of the particular facts of the case.

b) For expenditure by an employee to be deductible, that expenditure must have the essential character of an outgoing incurred in gaining assessable income.

c) Outgoings will be deductible where there is a clear connection between the expenditure and the actual derivation of income. It is not sufficient that the expenditure is a prerequisite to the derivation of assessable income. It must contribute to the derivation of that income.

d) The fact that expenditure is required to be incurred by an employee will not necessary mean, in itself, that the expenditure is deductible.

It is considered that the view expressed in TD 93/22, and the underlying reasons for that view are not affected by the decisions in either Edwards's case or Mansfield's case.

Therefore, a deduction, under section 8-1 of the ITAA 1997, for such expenditure would also be denied and, consequently, the 'otherwise deductible rule' under section 24 of the FBTAA would have no application in this case.

Additional information

Guidance concerning consequences of reportable fringe benefits:

A reportable fringe benefit is the value of the total of fringe benefits an individual employee receives in an FBT year (the FBT year commences 1 April and ends 31 March each year).

A fringe benefit can be provided to an employee by an associate of an employer.

If the value of certain fringe benefits exceeds $2,000 in a FBT year, then the employer is required to record the grossed-up taxable value of those benefits on the employee's payment summary (formerly known as group certificates). The grossed up value represents the amount an employee would have to earn before tax is taken out, in order to make a purchase of the benefits received.

If a benefit does not have a taxable value, it is not reported on the payment summary. This includes certain exempt benefit (for example, the tax-free component of food and accommodation components of the 'living away from home allowance' benefit. Furthermore, certain benefits are excluded from being reported, even though they had a taxable value.

Health insurance is not exempt from FBT, nor is it excluded from being reported on an employee's payment summary under The Fringe Benefits Tax Regulations 1992. Therefore the grossed up taxable value of health insurance must be reported on the payment summary if the total value exceeds $2,000.

Even though a reportable fringe benefits amount is included on a payment summary, it is not included in the employee's assessable income. It is, however, included in a number of income tests relating to the government benefits and obligations which specifically includes child support obligations, as it is included in your adjusted taxable income.

The impact this may have on child support obligations can be explained by the Child Support Agency.