ATO Interpretative Decision

ATO ID 2001/42

Income Tax

Deductions and expenses: Legal expenses in recovery of misappropriated funds
FOI status: may be released
  • This document has changed over time. View its history.

Status of this decision: Decision Current
CAUTION: This is an edited and summarised record of a Tax Office decision. This record is not published as a form of advice. It is being made available for your inspection to meet FOI requirements, because it may be used by an officer in making another decision.

This ATOID provides you with the following level of protection:

If you reasonably apply this decision in good faith to your own circumstances (which are not materially different from those described in the decision), and the decision is later found to be incorrect you will not be liable to pay any penalty or interest. However, you will be required to pay any underpaid tax (or repay any over-claimed credit, grant or benefit), provided the time limits under the law allow it. If you do intend to apply this decision to your own circumstances, you will need to ensure that the relevant provisions referred to in the decision have not been amended or repealed. You may wish to obtain further advice from the Tax Office or from a professional adviser.

Issue

Are legal expenses incurred in attempting to recover misappropriated funds deductible under section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Decision

No. Legal expenses incurred in attempting to recover misappropriated funds are not deductible under section 8-1 of the ITAA 1997.

Facts

A taxpayer who is an employee of a unit trust pays $50,000 for units in the trust. The person to whom the payment is made (a principal in the business) misappropriates the money; the money is never transferred to the trust. The taxpayer incurs legal expenses in attempting to recover the misappropriated funds.

Reasons for Decision

In determining whether a deduction is allowed under section 8-1 of the ITAA 1997, the nature of the expenditure must be considered ( Hallstroms Pty Ltd v FC of T (1946) 72 CLR 634; 8 ATD 190 per Dixon J). The nature or character of the legal expenses follows the advantage which is sought to be gained by incurring the expenses.

Where the legal expenses arise as a consequence of the day to day activities of a business, the object of the expenditure is devoted towards a revenue end and the legal expenses are deductible ( Herald & Weekly Times v FC of T 48 CLR 113; 2 ATD 169). Where, however, the expenditure is devoted towards a structural rather than operational purpose, the expenditure is of a capital nature and the expenses are not deductible ( Sun Newspapers Ltd v FC of T (1938) 61 CLR 337; 5 ATD 87).

The taxpayer has incurred legal expenses to recover money misappropriated by a principal of the business. The legal fees were incurred by the taxpayer in his capacity as an investor with the object of recovering invested capital. As such, the legal expenses are of a capital nature and are not deductible under section 8-1 of the ITAA 1997.

Amendment History

Date of amendment Part Comment
11 April 2014 Issue Update reference to subsection 51(1) ITAA 1936 to section 8-1 of the ITAA 1997.
Reasons for Decision Update reference to subsection 51(1) ITAA 1936 to section 8-1 of the ITAA 1997.
Legislative References Update reference to subsection 51(1) ITAA 1936 to section 8-1 of the ITAA 1997.

Date of decision:  20 January 1997

Legislative References:
Income Tax Assessment Act 1997
   section 8-1

Case References:
Herald & Weekly Times Ltd v FC of T
   48 CLR 113
   2 ATD 169

Hallstroms Pty Ltd v FC of T
   (1946) 72 CLR 634
   8 ATD 190

Sun Newspapers Ltd v FC of T
   (1938) 61 CLR 337
   5 ATD 87

Keywords
Deductions and expenses
Legal expenses

Business Line:  Small Business/Individual Taxpayers

Date of publication:  4 June 2001

ISSN: 1445-2782

history
  Date: Version:
  20 January 1997 Original statement
You are here 11 April 2014 Updated statement