Tax Deductions - Legal Expenses
One of the most common topics prefaced by “Can I claim” is legal expenses.
And the answer depends upon what type, what purpose, and your own circumstances – generally though, if a legal expense is incurred in relation to the operation of a business to produce assessable income, it is most probably allowable as a deduction.
The exceptions to this are as follows - when the legal fee is capital, domestic or private in nature; if it is specifically excluded by another section of income tax legislation; or it is incurred in earning exempt and non-assessable non-exempt income.
When individuals incur legal fees, the fees would not be deductible unless there is a clear connection to deriving assessable income (for example, for an investment property). Again, if the legal fees are private in nature, a deduction is not available.
Some specific common legal expenses are considered below.
Business lease expenses
• The cost of preparing, registering and stamping a lease is deductible if you are using (or will use) the property for earning assessable income. The lease payments themselves will be deductible under the general deduction rules, and may therefore also subject to special prepayment rules.
• Valuation fees paid to help decide whether to buy a business are generally capital costs and not an allowable tax deduction.
• However if the valuation is done to support an application to borrow money for use in the business, those valuation fees can be claimed as borrowing costs immediately if less than $100; or alternatively over the term of the loan, or five years from the date of the loan, whichever is shorter.
Fines and breaches of law
• You are specifically denied a deduction for fines or penalties (however they may be described) that are imposed for a breach of any Australian or foreign law.
• However, this rule does not apply to administratively imposed penalties such as general interest charge (which the ATO applies to unpaid tax liabilities) and penalties for underestimating GST instalments.
• And, while the fines and penalties may be specifically disallowed, any costs incurred in defending the action may possibly be deductible.
Evicting a tenant
• If you or your business acquires premises with an existing tenant in place, any costs incurred in evicting that tenant will not be deductible. Instead, this expense becomes part of the cost of acquiring the property and a capital amount for income tax purposes. Arguably, the expense could form part of the “cost base” of the property, being expenditure of a capital nature incurred in establishing the taxpayer’s title to, or a right over, the asset.
• Conversely, costs of evicting your own tenant who has defaulted in rent will usually be deductible.
Legal expenses that can be claimed
Circumstances where legal fees are usually deductible include:
• negotiating current employment contracts (including disputes) in respect of existing employment arrangements
• defending a wrongful dismissal action bought by former employees or directors
• defending a defamation action bought against a company board
• arbitration in settling disputes (depending on the facts)
• recovering misappropriated funds of the business
• opposing neighbourhood developments that are likely to adversely affect the taxpayer’s business (depending on the facts of the case)
• evicting a rent-defaulting tenant
• recovering wages of an employee as a result of a dishonored cheque
• defending a libel action provided the case was directly related to comments in pursuit of the company’s business
• pursuing claims for workers compensation, and
• defending the unauthorised use of trademarks (depending on the facts of the case).
Legal expenses that cannot be claimed
• the cost of negotiating employment contracts (by an employee) with a new employer
• defending driving charges (it doesn’t matter if the charge arose whilst driving on company business)
• defending charges of sexual harassment or racial vilification that occurred in the workplace
• eviction of a tenant whose term has expired
• resisting land resumption, rezoning or disputing the amount of compensation,
• disputing redundancy payout or seeking to increase the amount of any redundancy payout.
The task of determining whether a legal expense is tax deductible can be tricky, which is why we sometimes require a copy of actual legal fee, sometimes only even a part of the fee may be deductible.
Dereen Wallace, Partner
MBA BUSINESS SOLUTIONS
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