ATO ID 2002/1092: Interest expenses - loan taken out after business ceased
Date of decision: 28 October 2002
Year of income: Year ended 30 June 2002
Business line: Private Groups and High Wealth Individuals

Issue
Is the taxpayer entitled to a deduction under section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997) for interest incurred on a loan taken out after the cessation of a business?

Decision
No. The taxpayer is not entitled to a deduction under section 8-1 of the ITAA 1997 for interest incurred on a loan taken out after the cessation of a business.

Facts
The taxpayer commenced operating a business, using leased premises. After the business ceased, they failed to pay the rent due under the lease. The lessor took legal action to recover the debt. After negotiations it was agreed that the taxpayer would pay the rent. The taxpayer took out a loan to pay the overdue rent from a bank and incurred interest expenses on that loan.

Reasons for decision
Summary: Section 8-1 of the 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 where the outgoings are of a capital, private or domestic nature, or relate to the earning of exempt income. No loan existed at the time the business was being operated but a loan was taken out a number of years after the business ceased. Whether a deduction is allowable will depend on whether the occasion for incurring the interest '...is to be found in the business operations directed towards the gaining or production of assessable income generally...' ( Placer Pacific Management Pty v. Federal Commissioner of Taxation (1995) 95 ATC 4459; (1995) 31 ATR 253). In this case, unlike Federal Commissioner of Taxation v. Jones (Jones Case) (2002) 2002 ATC 4135; (2002) 49 ATR 188 and Federal Commissioner of Taxation v. Brown (1999) 43 ATR 1; 99 ATC 4600, the interest expense has no direct relationship to the previous income earning activities. In the Jones Case the Federal Court stated: Whether the occasion for a loss or outgoing lies in business operations so as to be deductible under s 51 or s 8-1 requires a judgment about the nexus between the loss or outgoing and the business operations; there must be "sufficient proximity" between the loss or outgoing and the business operations: FCT v Brown (1999) 43 ATR 1 at 9; 99 ATC 4600 at 4607. In this case, there is not 'sufficient proximity', as the loan was taken out after the business ceased and it has only an indirect relationship to the previous business operations. That is, it did not arise out of the income producing activities but was merely in respect of those activities. The taxpayer is therefore not entitled to a deduction under section 8-1 of the ITAA 1997 for the interest incurred on the loan taken out after the business activities ceased.

Legislative references: Income Tax Assessment Act 1997 section 8-1
Case references: Placer Pacific Management Pty Ltd v. Federal Commissioner of Taxation (1995) 95 ATC 4459 (1995) 31 ATR 253
Subject references: Deductions & expenses Interest expenses