1 Are legal fees incurred across the 20XX, 20XX, and 20XX income years, in relation to safe return to employment due to workplace reprisals which resulted from Public Interest Disclosures made, deductible under section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997)?
Yes. Question 2 Are legal expenses related to your employment termination payment (ETP) negotiation deductible? Answer No. This ruling applies for the following periods : Year ended 30 June 20XX The scheme commenced on: DDMM20YY
In 20XX, you commenced full-time employment with Employer A. You worked in Unit A for Employer A. Within your role description it states you must: ... comply with workplace Health and Safety, Equal Employment Opportunity and anti-discrimination policies. In this role you were required to notify your superior when fraud or misconduct occurs or is believed to have occurred. On DDMM20YY, you made a public interest disclosure (PID) under a Public Interest Disclosure Actabout the conduct of another employee, which you witnessed. The PID related to serious misconduct by Unit A employee during official working hours. The allegations focused on: • Disclosures of wrongdoing by another employee that had been witnessed in the workplace. • Disclosures related to the behaviour of corrupt conduct within the workplace by the employee. Starting from in or around XX 20XX, you were subject to reprisal actions including false allegations, removal of study benefits, and persistent workplace mistreatment. On DDMM20YY, you were informed that your PID led to a formal investigation. On DDMM20YY, you lodged a formal grievance with human resources (HR).
For a period, you undertook paid leave which was covered under your employer's insurance provider. During this leave you received approximately XX% of your Unit A salary. The estimated income loss for this period is between $XX and $XX excluding superannuation and other allowances. On DDMM20YY, you had a meeting with HR. In XXXX 20XX, you engaged Firm A as your legal representation with the primary intention to return to your employment and ensuring a safe workplace. Firm A assisted with: • Exploring industrial and legal options to facilitate a safe return, • Advising you on your rights and obligations under employment and public sector law, • Communicating with the employer regarding workplace safety, • Considering and preparing for potential industrial action if required. On DDMM20YY, you lodged a complaint with a public Commission (Commission 1), which was referred to another public Commission (Commission 2) on DDMM20YY. In the complaint, you alleged unlawful discrimination on the basis of impairment, victimisation and PID reprisal in contravention of the Anti-Discrimination Act 1991 and breaches of your human rights in contravention of the Human Rights Act 2019 .
On DDMM20YY, you lodged an application with the Commission 2 seeking relief from the alleged contraventions. On DDMM20YY, the PID conclusion and findings were provided to you. On DDMM20YY, Unit A extended a formal settlement offer, contingent upon your resignation and withdrawal of legal proceedings. Under the settlement agreement, you would: • Resign from employment • Receive an Employment Termination Payment (ETP). • Enter a deed of release. Under the settlement agreement, you agreed to take no further action in relation to the matter. Prior to DDMM20YY, you incurred the following legal fees from Firm A: • You incurred $XX in the 20XX income year. • You incurred $XX in the 20XX income year. • You incurred $XX in the 20XX income year. On DDMM20YY, you signed the settlement agreement. On DDMM20YY, you formally resigned. On DDMM20YY, you incurred legal fees of $XX.
Income Tax Assessment Act 1997 section 8-1
Summary Question 1 You sought legal representation for advice regarding your treatment conducting your daily work duties and how to settle the dispute with your employer over the PID you made whilst maintaining your employment conditions. Your primary intention was to return to your employment and to ensure a safe workplace. You were not seeking compensation or to cease your employment. The claims directly related to your daily work duties in which you derived your assessable income. The legal expenses related to this legal advice you sought prior to your resignation are revenue in nature and deductible under section 8-1 of the ITAA 1997. You are therefore eligible for a deduction for the expenses: • The amount $XX incurred the 20XX income year. • The amount $XX incurred the 20XX income year. • The amount $XX incurred the 20XX income year. Question 2
On DDMM20YY, Unit A extended a formal settlement offer, contingent upon your resignation and withdrawal of legal proceedings. The advantages you were seeking were regarding the cessation of your employment and are capital in nature. As no deduction is allowed for expenses that relate to items of a capital nature, you cannot claim a deduction for these legal expenses you incurred. You are therefore not eligible for a deduction for the expenses: • The amount of $XX, incurred on DDMM20YY. Under the terms of the settlement the ETP was to be paid withing X business days of executing the agreement. Any expenses relating to the ETP are not deductible because they relate to the negotiation of the ETP. Detailed reasoning Section 8-1 of the Income Tax Assessment Act 1997 (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 to the extent the outgoings are of a capital, private or domestic nature, or relate to the earning of exempt income.
A deduction for legal expenses by an employee depends on the particular facts of a case. For legal expenses to constitute an allowable deduction, it must be shown that they were incidental or relevant to the production of the taxpayer's assessable income, ( Ronpibon Tin NL & Tong Kah Compound NL v. Federal Commissioner of Taxation (1949) 78 CLR 47; [1949] HCA 15; (1949) 4 AITR 236; (1949) 8 ATD 431). In determining whether a deduction for legal expenses is allowed under section 8-1 of the ITAA 1997, the nature of the expenditure must be considered ( Hallstroms Pty Ltd v. Federal Commissioner of Taxation (1946) 72 CLR 634; (1946) 3 AITR 436; (1946) 8 ATD 190). The nature or character of the legal expenses follows the advantage that is sought to be gained by incurring the expenses. If the advantage to be gained is of a revenue nature, then the expenses incurred in gaining the advantage will also be of a revenue nature.
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 ( Inglis v. FC of T 87 ATC 2037; and Case V116 88 ATC 737; AAT Case 4502 (1988) 19 ATR 3703). Furthermore, legal expenses are generally deductible if they arise out of the day to day activities of the taxpayer's business (Herald and Weekly Times Ltd v. Federal Commissioner of Taxation (1932) 48 CLR 113; (1932) 39 ALR 46; (1932) 2 ATD 169) and the legal action has more than a peripheral connection to the taxpayer's income producing activities ( Magna Alloys and Research Pty Ltd v. FC of T (1980) 49 FLR 183; (1980) 11 ATR 276; 80 ATC 4542). In FC of T v. Day [2008] HCA 53 and FC of T v. Rowe (1995) 31 ATR 392; 95 ATC 4691, the courts accepted that legal expenses incurred in defending the manner in which a taxpayer performed his employment duties were allowable. No significance was placed by the court on the taxpayer's status as an employee. As per paragraph 2 of Taxation Ruling TR 2000/5
Income tax and fringe benefits tax: costs incurred in preparing and administering employee agreements , where legal expenses incurred are associated with settlement of disputes arising out of an existing employment agreement a taxpayer will be entitled to a deduction under section 8-1 of the ITAA 1997 for the cost of representation. At paragraph 12, the ruling recognises the types of costs that may be incurred in administering an employment agreement, including costs relating to the settlement of disputes. Similarly, in ATO Interpretive Decision ATO ID 2001/27 Income Tax: Deductions and expenses: Legal expenses in course of employment
, the taxpayer, as part of their employment duties, was instructed to write a paper. Subsequently, the taxpayer was reprimanded for comments included in the paper. The taxpayer, being concerned about the possibility of being dismissed from the position as a result of the comments, sought legal advice. The taxpayer incurred legal expenses in defending themself against criticism of the taxpayer's work practices. The evidence indicated that, in carrying out the actions that led to the criticism, the taxpayer was doing no more than executing their employment duties. Consequently, the legal expenses incurred were an allowable deduction. Taxation Ruling TR 97/7 Income tax: section 8-1 - meaning of 'incurred' - timing of deductions provides the Commissioner's opinion on whether the word 'incurred', in section 8-1 of the ITAA 1997, has the same meaning for taxpayers who return their income on a receipts basis as it does for those taxpayers who generally return their income on an earnings basis. Paragraph 6 and 21 of TR 97/7 provide a discussion on when a legal expense is incurred and states:
6. The courts have been reluctant to attempt an exhaustive definition of a term such as 'incurred'. The following propositions do not purport to do this, they help to outline the scope of the definition. The following general rules, settled by case law, assist in most cases in defining whether and when a loss or outgoing has been incurred: (a) a taxpayer need not actually have paid any money to have incurred an outgoing provided the taxpayer is definitively committed in the year of income. Accordingly, a loss or outgoing may be incurred within section 8-1 even though it remains unpaid, provided the taxpayer is 'completely subjected' to the loss or outgoing. That is, subject to the principles set out below, it is not sufficient if the liability is merely contingent or no more than pending, threatened or expected, no matter how certain it is in the year of income that the loss or outgoing will be incurred in the future. It must be a presently existing liability to pay a pecuniary sum; (b) a taxpayer may have a presently existing liability, even though the liability may be defeasible by others;
(c) a taxpayer may have a presently existing liability, even though the amount of the liability cannot be precisely ascertained, provided it is capable of reasonable estimation (based on probabilities); (d) whether there is a presently existing liability is a legal question in each case, having regard to the circumstances under which the liability is claimed to arise; (e) in the case of a payment made in the absence of a presently existing liability(where the money ceases to be the taxpayer's funds) the expense is incurred when the money is paid. Taxation Ruling TR 2012/8 Income tax and fringe benefits tax: assessability of amounts received to reimburse legal costs incurred in disputes concerning termination of employment explains whether or not amounts received to reimburse legal costs incurred in disputes concerning termination of employment are included in assessable income either: • because they form part of an employment termination payment ('ETP') within the meaning of section 82-130 of the ITAA 1997; or • as an assessable recoupment under section 20-20 of the ITAA 1997, where the legal costs are deductible under section 8-1 of the ITAA 1997.
Paragraph 45 of TR 2012/8, states that compensation for loss of employment, such as in an action for wrongful dismissal or loss of office, is a capital receipt ( Scott v. Commissioner of Taxation). Legal costs incurred in seeking such compensation are not deductible because the nature of the advantage sought is capital. This is so, even if the amount of compensation awarded is calculated by reference to unpaid salary or lost income or is assessable as statutory income. Application to your circumstances TR 97/7 provides clarification that a taxpayer does not need to have paid the expense to have 'incurred' it. The expense is incurred when the taxpayer is definitively committed to the liability. If the money is paid to a trust account but no bill has been issued, the taxpayer is not yet committed to the expense and by result the expense is not incurred at this point. Once the lawyer issues the bill and the taxpayer becomes liable, the expense is incurred, even if payment is made at a later date from the trust account. Therefore, the date Firm A issued you bills for their services, you became committed to the expense. Question 1
You sought legal representation for advice regarding your treatment conducting your daily work duties and how to settle the dispute with your employer over the PID you made whilst maintaining your employment conditions. Your primary intention was to return to your employment and to ensure a safe workplace. You were not seeking compensation or to cease your employment. The claims directly related to your daily work duties in which you derived your assessable income. The legal expenses related to this legal advice you sought prior to your resignation are revenue in nature and deductible under section 8-1 of the ITAA 1997. You are therefore eligible for a deduction for the expenses: • The amount $XX incurred the 20XX income year. • The amount $XX incurred the 20XX income year. • The amount $XX incurred the 20XX income year. Question 2
On DDMM20YY, Unit A extended a formal settlement offer, contingent upon your resignation and withdrawal of legal proceedings. The advantages you were seeking were regarding the cessation of your employment and are capital in nature. As no deduction is allowed for expenses that relate to items of a capital nature, you cannot claim a deduction for these legal expenses you incurred. You are therefore not eligible for a deduction for the expenses: • The amount of $XX, incurred on DDMM20YY. Under the terms of the settlement the ETP was to be paid withing X business days of executing the agreement. Any expenses relating to the ETP are not deductible because they relate to the negotiation of the ETP.