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Edited version of your written advice
Authorisation Number: 1013000842743
Date of advice: 26 April 2016
Ruling
Subject: Legal expenses
Question 1
Is the portion of your legal expenses relating to the resolution of the workplace dispute and leave entitlements an allowable deduction?
Answer
Yes.
Questions 2
Is the portion of your legal expenses relating to the negotiation of your eligible termination payment (ETP) an allowable deduction?
Answer
No.
This ruling applies for the following periods
Year ended 30 June 20XX
Year ended 30 June 20XX
The scheme commences on
1 July 20XX
Relevant facts and circumstances
You were employed.
A dispute regarding your employment conditions arose.
You sought legal advice regarding the dispute.
During the dispute process your legal advisor commenced negotiating an ETP on your behalf.
You incurred legal expenses in relation to the work dispute, your leave entitlements and the negotiation of the ETP
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, or relate to the earning of exempt income.
The deductibility of legal expenses will be dependent upon the reasons the legal expenses were incurred and not the outcome of the action undertaken.
For legal expenses to constitute an allowable deduction it must be shown that they were incidental and relevant to the production of the taxpayer's assessable income (Ronpibon Tin NL & Tong Kah Compound NL v. Federal Commissioner of Taxation (1949) 78 CLR47; (1949) 4 AITR 236; (1949) 8 ATD 431).
If the outcome sought by the legal action is revenue in nature then the legal expenses will also be revenue in nature. Similarly, if the advantage sought is capital in nature the expenses will also be capital in nature.
There are often occasions where the legal expenses are incurred in relation to proceedings that relate both to amounts that are income in nature as well as amounts which are not. In these situations, the expenses need to be apportioned between the income and non-income claims sought.
Consequently, it is necessary to consider the reason why your legal expenses were incurred.
You incurred a significant amount of the legal expenses in relation to a dispute that occurred between you and your employer over an issue in the workplace. This issue affected your employment and your ability to work effectively.
When the principal reason for incurring the legal expenses is defending the actions of the taxpayer in carrying out their employment duties through which they gain or produce assessable income, such expenses are characterised as being of a revenue nature and are deductible. The legal expenses incurred in relation to the dispute are deductible as you were defending the manner in which you carried out your employment duties.
Legal expenses were also incurred in an attempt to access your leave entitlements whilst suspended. Leave entitlement payments are assessable income therefore the legal expenses incurred to obtain these types of payments are deductible even though the legal action was unsuccessful.
You also incurred legal expenses to negotiate the ETP paid under the Deed. The ETP is compensation for the loss of the expectation of continuity of service and is a payment that is capital in nature.
Payments that are treated as ETP's are subject to special tax treatment that may result in some or all of the amount being included in your income. However 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.
The legal expenses attributable to the negotiation of the ETP are not deductible as they are capital in nature.
When expenses are a mix of a revenue and capital nature the expenses need to be apportioned. Apportionment is a question of fact and involves a determination of the proportion of the expenditure that is attributable to deductible purposes. The Commissioner believes that the method of apportionment must be fair and reasonable in all the circumstances.
Accordingly, you are entitled to a deduction under section 8-1 of the ITAA 1997 for your legal expenses in the year of income in which the invoices are raised, up until the point of where the legal proceedings changed to the negotiation of the ETP.