ATO ID 2002/391: Legal Expenses - recovery of unused annual leave and unused long service leave from ex-employer
Date of decision: 7 March 2002
Business line: Small Business/Individual Taxpayers

Issue
Is the taxpayer entitled to claim a deduction under 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997) for the legal expenses they incurred in order to recover their unused annual leave and unused long service leave from their ex-employer?

Decision
Yes. The legal expenses directly relate to the gaining or producing assessable income and are deductible under section 8-1 of the ITAA 1997.

Facts
The taxpayer ceased employment with their employer. The employer refused to pay the taxpayer amounts in respect of unused annual leave and unused long service leave. The taxpayer took action through the Industrial Relations Commission. The taxpayer incurred legal costs in obtaining a judgement in respect of the unused annual leave and unused long service leave. The Commission ordered the ex-employer to pay the taxpayer an amount representing the taxpayer's unused annual leave and unused long service leave.

Reasons for decision
Summary: Section 8-1 of the ITAA 1997 states that you can deduct from your assessable income any loss or outgoing to the extent that it is incurred in gaining or producing assessable income and is not: Subsection 6-5(2) of the ITAA 1997 provides that the assessable income of a resident taxpayer includes ordinary income derived directly or indirectly from all sources during the year. Salary and wages, including annual leave payments, is considered ordinary income as it is paid directly as a result of the personal services an employee renders for their employer. However, unused annual leave and unused long service leave (although acquired through personal services and thus characterised as ordinary income) are considered to be forms of statutory income under section 6-10 of the ITAA 1997. Section 73-10 of the ITAA 1997 provides concessional tax treatment for unused annual leave received as a lump sum. Section 83-30 of the ITAA 1997 provides concessional tax treatment for unused long service leave received as a lump sum. Although the tax treatment of these amounts is different from salary and wages (including payments in respect of leave taken) earned during the course of employment, it does not alter the character of the payments as ordinary income. The legal expenses incurred by the taxpayer in order to obtain the unused annual leave and unused long service leave resulted in the taxpayer gaining assessable income. There is a clear connection between the assessable income and the expense. The expenses were not incurred in respect of income that was capital, private or domestic in nature. Accordingly, the legal expenses were incurred in gaining the taxpayer's assessable income and are deductible under section 8-1 of the ITAA 1997.

Legislative references: Income Tax Assessment Act 1997 section 8-1 subsection 6-5(2) section 83-10 section 83-30
Subject references: Compensation income Legal expenses