Private ruling: Deduction for legal fees incurred
Published: June 2012
Ruling period: Year ended 30 June 2005 | Year ended 30 June 2006 | Year ended 30 June 2007 | Year ended 30 June 2008 | Year ended 30 June 2009 | Year ended 30 June 2010
Date scheme commenced: ! July 2004

Ruling: Q1: Can you claim a deduction for legal fees incurred in a marriage breakdown agreement? | A1: No | Q2: Can you claim the 2008 Tax Bonus Stimulus payment where the 2008 Income tax return is lodged after 30 June 2009? | A2: No. | Q3: Can you claim a full main residence exemption where the property was partially used for income producing purposes? | A3: No

Relevant facts and circumstances: This ruling is based on the facts stated in the description of the scheme that is set out below. If your circumstances are materially different from these facts, this ruling has no effect and you cannot rely on it. The fact sheet has more information about relying on your private ruling. Your marital relationship broke down and you separated from your spouse. As a result of this breakdown your spouse instituted legal action concerning the division of property through the Courts. The property comprised a principal place of residence and mortgaged investment funds. As there were investment properties involved, the legal fees were substantially higher than normal. As part of the agreement you purchased your former spouse's share of the family home. This purchase was achieved by the transfer of funds by your solicitor to your former spouse. Your former spouse worked part time from your then shared family home.

Relevant legislative provisions: Tax Bonus for working Australians Act (No2) 2009 Section 118-190 Income Tax Assessment Act 1997 | Section 8-1 Income Tax Assessment Act 1997 | Division 110 Income Tax Assessment Act 1997 | Subsection 126-5(5) Income Tax Assessment Act 1997 | Subsection 110-25(6) Income Tax Assessment Act 1997 | Subsection 110-25(3) Income Tax Assessment Act 1997

Reasons for decision: Detailed Reasoning - Deductibility of legal expenses: 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. Generally, legal expenses have been held to be deductible if the expenses have arisen as a consequence of the taxpayer's income earning activities and the legal expenses are not of a capital, private or domestic nature ( Herald & Weekly Times Ltd v. Federal Commissioner of Taxation (1932) 48 CLR 113; 2 ATD 169). In your case, you incurred legal expenses in transferring your right to property from your spouse to yourself as a result of a marriage breakdown. You incurred the expenses for legal representation to defend the proceedings in the Federal Magistrates Court. The legal expenses were incurred as a result of a private or domestic matter between yourself and your ex spouse. The expenses incurred in defending the Federal Magistrates Court proceedings relating to a private or domestic matter are, therefore, not deductible under section 8-1 of the ITAA 1997 Under subsection 126-5(5) of the Income Tax Assessment Act 1997 (ITAA 1997), if a capital gains tax (CGT) asset is transferred between spouses because of a court order under the Family Law Act 1975, the first element of the asset's cost base in the hands of the transferee is the asset's cost base in the hands of the transferor at the time the transferee acquired it. The first element of the asset's reduced cost base (if applicable) is calculated similarly. However, general legal costs of a marriage breakdown do not satisfy the cost base rules in Division 110 of the ITAA 1997. Under Division 110 of the ITAA 1997 there are five elements which may be included in the cost base and reduced cost base of a CGT asset. The fifth element is expenditure incurred to establish, preserve or defend your title or right over a CGT asset (subsection 110-25(6) of the ITAA 1997) Costs of transfer (conveyancing fees, stamp duty, etc.) of a CGT asset transferred between spouses because of a court order under the Family Law Act 1975 are included in the cost base of the transferor (paragraph 110-25(3)(b) of the ITAA 1997) which becomes the first element of the transferee's cost base. The legal fees and expenses you incur relate to your de-facto marriage breakdown and property settlement, and are not specifically related to the preservation or defence of your 50% interest in the two properties. They therefore cannot be included in the fifth element of your cost base of each property. Similarly, these legal fees and expenses would not be included in the cost base of the 50% interest in each of the properties of your former de-facto spouse when they are transferred to you. | Detailed Reasoning - 2008 Tax bonus stimulus payment: To be eligible for the 2008 Tax bonus stimulus payment the 2008 taxation return must be lodged by 30 June 2009 or may be lodged later through a tax agent under a pre-existing extension arrangement. The Commissioner cannot retrospectively allow you an entitlement to the stimulus payment where you do not meet these criterion. | Detailed Reasoning - Capital Gains Tax: Capital gains tax (CGT) is the tax you pay on certain capital gains you make. You may make a capital gain or capital loss as a result of a CGT event. The sale of a property constitutes CGT event A1. Generally you can ignore a capital gain or capital loss from a CGT event that happens to a dwelling that is your main residence for the entire period you owned it. | Detailed Reasoning - Main residence: Generally, capital gains tax does not apply to a person's sole or principal residence. Only a partial main residence exemption is available if the dwelling was used for income producing purposes during all or part of the ownership period. Taxation Ruling IT 2673 states that as a rule of thumb, it can be expected that where an area of a home is a place of business the capital gains provisions will apply. | Detailed Reasoning - Marriage breakdown: Where an individual obtains an ownership interest in a dwelling from a former spouse as the result of the breakdown of their marriage, the recipient spouse is able to claim the main residence exemption if the transferring spouse would have been able to. Under section 118-178 of the ITAA 1997, the main residence exemption is extended to the recipient spouse by them effectively inheriting the ownership period of the former spouse if the following conditions are met: · the individual acquired their ownership interest from a former spouse as a result of an earlier CGT event (such as the transfer of ownership under court order); · the former spouse acquired their ownership interest on or after 20 September 1985; · the marriage breakdown rollover provisions applied for that earlier CGT event; and · a later CGT event happens in relation to that ownership interest (the recipient spouse then sells their ownership interest). As your spouse used the property for partial income producing purposes, when the asset is transferred to you it still holds the character of an asset used for income producing purposes. You cannot receive a full main residence exemption. | Detailed Reasoning - Home first used to produce income rule: If you start using your main residence (in your case your spouse) to produce income for the first time after 20 August 1996, a special rule affects the way you calculate your capital gain or capital loss. In working out the amount of capital gain or capital loss, the period before the dwelling is first use to produce income is not taken into account. You are taken to have acquired the dwelling at the time you first started using it for income producing purposes for its market value at that time if all of the following apply: · you acquired the dwelling on or after 20 September 1985 (post CGT); · you first used the dwelling to produce income after 20 August 1996; · when a CGT event happens in relation to the dwelling, you would obtain only a part exemption because the dwelling was used to produce assessable income during the period you owned it; and · you would have been entitled to a full exemption if the CGT event happened to the dwelling immediately before you first used it to produce income. This has the effect that the first element of the dwelling's cost base and reduced cost base is the market value of the dwelling on the day it was first used for income producing purposes (and expenditure incurred by the taxpayer prior to that day is ignored). In your case as: · the dwelling was acquired on or after 20 September 1985 (post CGT) and the dwelling was first used to produce income after 20 August 1996; · you would have been entitled to a full main residence exemption if the CGT event happened to the dwelling immediately before you used it to produce income because it had been your main residence for your entire ownership period. · for the purpose of calculating your capital gain or loss on the disposal of the dwelling, you are taken to have acquired the dwelling for its market value at the time you commenced using it as a place of business. | Detailed Reasoning - Calculation of capital gain or loss: Generally speaking, unless the part of the dwelling used to gain assessable income is distinctly of a greater or lesser proportionate value than the rest of the dwelling, the extent to which it was used to gain assessable income will be determined on an area basis. This amount of the capital gain or capital loss will also be determined having regard to the period for which that part of the dwelling was used by you as a place of business. In your situation, you will need to apportion the area within your dwelling used as a place of business. The formula for apportionment is as follows: · Capital gain multiplied by percentage of floor area not used as main residence multiplied by percentage of period of ownership (from the date the dwelling was first used to produce income), where that part of the home was not used as main residence equals taxable portion.

Please check this edited version to be sure that there are no details remaining that you think may allow you to be identified. If you have any concerns about this ruling you wish to discuss, you will find our contact details in the fact sheet.