Private ruling: Deductions - legal expenses
Date of advice: 2 December 2025
Published: 27 January 2026
Ruling period: Year ended 30 June 20XX | Year ended 30 June 20XX | Year ended 30 June 20XX
Date scheme commenced: DDMM 20YY

Ruling: Q1: Are your legal expenses you incurred in defending legal proceedings initiated by a former employer tax deductible under section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997)? | A1: No.

Relevant facts and circumstances: For a period, you were employed by company A. After resigning from company A, you accepted a position with company B, which had a commencement date of DD MM 20YY. After you commenced employment with company B, company A initiated proceedings against you in the Supreme Court for allegedly breaching your employment related duties and confidentiality (the allegations). The allegations made against you, were that you breached clauses XX and XX of your employment contract with company A The claim was that you intended to work with a competitor and, in doing so, was allegedly breaching your employment contract clauses on confidentiality and restraint of trade. On DD MM 20YY, company A was granted injunctive relief. During the XX-month injunctive period, you were required to resign from your position at company B, as the restrictions imposed by the injunction prevented you from continuing in this role. Since DD MM 20YY, you have been employed by the company C. This role does not allegedly breach any of your previous contract conditions with company A. The matter was later transferred to the District Court. The proceedings are still ongoing, and no deed has currently been entered. You engaged legal services to respond to the claim. You incurred legal costs defending the alleged breach of the employment contract. You are not seeking your legal costs to be reimbursed by company A as part of any the future deed or proceedings.

Relevant legislative provisions: Income Tax Assessment Act section 8-1

Reasons for decision: Summary: Your legal expenses relate to an action for damages regarding you breaching your employment contract. Therefore, you are not entitled to a deduction under section 8-1 of the ITAA 1997 for your legal expenses associated with your proceedings. | Detailed Reasoning - 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 where the outgoings are of a capital, private or domestic nature, or relate to the earning of exempt income. The High Court majority in Commissioner of Taxation v Payne [2001] HCA 3 said it is well established that these words are to be understood as meaning incurred 'in the course of' gaining or producing assessable income, and do not convey the meaning of outgoings incurred 'in connection with' or 'for the purpose' of deriving assessable 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. Taxation Determination TD 93/29 Income tax: if an employee incurs legal expense recovering wages paid by a dishonoured cheque, are these legal expenses an allowable deduction under section 8-1 of the Income Tax Assessment Act 1997? outlines the Commissioners view on certain legal expenses. The ruling states that if an employee incurs legal expense in recovering wages, the legal expenses are an allowable deduction providing that the legal action relates solely to the recovery of wages. However, if the legal action goes beyond a claim for a revenue item such as wages and constitutes an action for example, breach of the contract of employment, where the essential character of the advantage sought relates to an enduring advantage that is of a capital nature, the legal costs would not be deductible. Legal expenses relating to an action for damages for wrongful dismissal or a breach of employment contract, are not deductible. The courts have held that expenditure incurred in relation to a restraint of trade clause are capital in nature ( Kemp v. Federal Commissioner of Taxation (1992) 110 ALR 375; (1992) 24 ATR 75; 92 ATC 4542). | Detailed Reasoning - Application to your circumstances.: You incurred legal expenses from taking legal action in defending a claim for allegedly breaching the confidentiality and restraint of trade provisions of your previous employment agreement with company A. The legal expenses were incurred whilst being employed by different employer. The dispute did not arise to enforce a contractual agreement relating to right to income such as an action to recover unpaid wages, unused annual leave and unused long service leave owed. Therefore TR 2012/8 does not apply. TR 2000/5 is not applicable because the dispute did not arise out of a current employment agreement being an agreement with company C. The legal expenses related to the previous employment agreement with company A and were incurred after your employment had ceased. The legal expenses were not incurred in defending the way you perform your day-to-day employment duties. The legal expenses arose from your alleged personal conduct (being employed by a competitor). Thus, it cannot be said the legal expenses were incurred in gaining or producing assessable income. Your legal expenses relate to an action for damages regarding you breaching your employment contract, where the essential character of the advantage sought relates to an enduring advantage that is of a capital nature. Therefore, you are not entitled to a deduction under section 8-1 of the ITAA 1997 for your legal expenses associated with your proceedings.