Private ruling: Capital gains tax
Date of advice: 16 September 2015
Published: September 2015
Ruling period: Year ending 30 June 2016 | Year ending 30 June 2017 | Year ending 30 June 2018 | Year ending 30 June 2019 | Year ending 30 June 2020
Date scheme commenced: 1 July 2015

Ruling: Q1: Can you claim a deduction under section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997) for the cost of acquiring client records from your previous employer? | A1: No | Q2: Does the expenditure incurred to obtain client records from your previous employer form the cost base of a CGT asset of your business? | A2: Yes | Q3: Can your deductions over five years under subsection 40-880(2) of the ITAA 1997 for the cost of acquiring the client records and commission rights because they are business capital expenditure? | A3: No

Relevant facts and circumstances: You were employed by your previous employer as an advisor. Your employment contract contained a clause which prohibited you from engaging in any business which would compete with your employer for a period of 12 months after your employment was terminated. You subsequently ceased employment with your previous employer. In order to maintain your ability to earn assessable income in your field of expertise, you entered into a release agreement whereby you agreed to pay your former employer an agreed amount for each client which decided to continue to maintain a relationship with yourself personally rather than your previous employer.

Relevant legislative provisions: Income Tax Assessment Act 1997 Section 8-1 | Income Tax Assessment Act 1997 Section 108-5 | Income Tax Assessment Act 1997 Section 110-25 | Income Tax Assessment Act 1997 Section 40-880

Reasons for decision: Summary: A taxpayer is allowed a deduction for any loss or outgoing incurred in gaining or producing their assessable income (paragraph 8-1(1)(a) of the ITAA 1997). They may also claim a deduction if the loss or outgoing is necessarily incurred in carrying on a business for the purpose of gaining or producing their assessable income. However a taxpayer cannot deduct a loss or outgoing under section 8-1 of the ITAA 1997 to the extent that it is a loss or outgoing of capital, or of a capital nature. In GP International Pipecoaters Pty Ltd v. Federal Commissioner of Taxation (1990) 170 CLR 124; 90 ATC 4413; (1990) 21 ATR 1 the High Court pointed out that the character of expenditure is ordinarily determined by reference to the nature of the asset acquired and that the character of the advantage sought by the making of the expenditure is a critical factor in determining the character of what is paid. In your case, you incurred expenditure to obtain continuing access to the clients you serviced at your previous employment, allowing you to continue to earn assessable income. Taxation Ruling TR 2000/1 considers the tax consequences of the acquisition of insurance registers. It is considered that insurance registers and the client records of an advisor share some common features; hence the views expressed in TR 2000/1 are relevant to the current issue. Paragraph 2 of TR 2000/1 states in part: For the purposes of this Ruling an insurance register records the rights of an insurance agent to future renewal, CPI and/or orphan policy commissions in accordance with the terms of an agency agreement with an insurance company. The register is also a record of the policyholders that an agent has an exclusive right to deal with on behalf of an insurance company. Thus an insurance register is a record of the rights of an insurance agent to future commissions and a record of policyholders that an agent has an exclusive right to deal with on behalf of an insurance company. Paragraph 13 of TR 2000/1 further states that: Expenditure incurred by an agent acquiring an insurance register would be of a capital nature irrespective of the legal form of the transaction and consequently not allowable as a deduction under section 8-1 of the Act. In determining whether an item of expenditure is an outgoing of capital or revenue no one single factor is determinative. Rather, all relevant factors must be considered collectively. It is therefore considered that your expenditure to acquire the client records is capital or capital in nature. In particular the expenditure expanded the size of your business and the rights that come with such records, resulting in a continuing ability to earn assessable income. The expenditure is therefore not deductible under section 8-1 of the ITAA 1997. A CGT asset is 'any kind of property' or 'a legal or equitable right that is not property' (subsection 108-5(1) of the ITAA 1997). The definition also includes 'part of, or an interest in' a CGT asset (paragraph 108-5(2)(a) of the ITAA 1997). The client rights you acquired satisfy this definition and are CGT assets. The first element of the cost base of a CGT asset includes the money a taxpayer paid (or is required to pay) to acquire the asset (paragraph 110-25(2)(a) of the ITAA 1997). Therefore the money you paid or are required to pay in respect of acquiring the client records from your previous employer is the first element of their cost bases. Subsection 40-880(2) of the ITAA 1997 allows certain business capital expenditure to be deducted in equal proportions over five income years. This includes capital expenditure that a taxpayer incurs in relation to their business. However paragraph 40-880(5)(f) of the ITAA 1997 provides that taxpayers cannot deduct anything under section 40-880 of the ITAA 1997 for an amount of expenditure they incur to the extent that 'it could, apart from this section, be taken into account in working out the amount of a capital gain or capital loss from a CGT event. As it has been determined that the expenditure to obtain client records from your previous employer forms the cost base of a CGT asset, you therefore cannot deduct the expenditure under section 40-880 of the ITAA 1997.