Private ruling: Deductions
Date of advice: 14 October 2025
Published: 1 December 2025
Ruling period: Year ended 30 June 20XX
Date scheme commenced: 1 July 20XX

Ruling: Q1: Are you entitled to claim a deduction for legal expenses incurred under section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997)? | A1: No.

Relevant facts and circumstances: You were employed as a XXXXX. You had a work injury in 20XX that required surgery, and this deemed you unable to work. You had a Workcover claim, and you received a payout and Workcover payments for two years that have now ceased. You have had a standalone income protection policy through XXXX since XX/XX/19XX. The policy covers you until you are XX years old with an agreed value. You made a Total and Permanent Disablement (TPD) claim through your superannuation and the payout was rolled into your super XX. This was a capital payment. The TPD was successful on the condition that you resign. You had a successful income protection claim with XXXXX. The payout was not a capital payout but was initially a lumpsum for the backdated income protection claim was received. This is your only source of income. The payment from income protection included a lump sum due to the backdating of the claim approval. For the private non - super income protection claim, a lawyer was engaged and was paid $XXXXX on XX/XX 20XX. The TPD and the income protection legal fees were billed separately. Legal fees receipt date was XX/XX/20XX from Solicitors. You have received and are continuing to receive monthly payments. You have not been reimbursed for the legal fees.

Relevant legislative provisions: Income Tax Assessment Act 1997 section 8-1

Reasons for decision: Summary: Section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997) allows a person to claim a loss or outgoing that is incurred in gaining or producing assessable income so long as the loss or outgoing is not of a capital, private or domestic nature. | Detailed Reasoning - Work related expenses: In determining the general deductibility of expenses, there are positive and negative limbs in defining the deductibility of expenses under section 8-1 of the ITAA 1997. The positive limb allows for losses and outgoings to the extent that they are either: Incurred in gaining and producing assessable income and are necessarily incurred in carrying on a business for the purpose of gaining or producing assessable income. There must be a nexus between the expense and the production of earning assessable income. The expense must meet both conditions. Generally, a taxpayer cannot claim a deduction unless it is incurred in gaining or producing their assessable income. it must relate to assessable income that they have derived or will derive. The negative limbs deny the deduction to the extent that the losses or outgoings are: Capital or capital in nature, private or domestic in nature or incurred in gaining or producing exempt income or non-assessable non-exempt or specifically non-deductible by the provision of law. If the expense cannot satisfy either of the positive limbs, the expense will not be deductible under the general deduction provisions. So, the first step in determining if an expense is deductible under section 8-1(1)(a)(b) of the ITAA 1997 is to apply the positive limbs. In your case, the legal costs were incurred but you are not producing assessable income as per section 8-1(a) of the ITAA 1997. The income is from your income protection claim. To claim a deduction there must be a relevant connection with earning the income. However, even if the expense can satisfy one or both positive limbs, it must still pass the tests set out in the negative limbs. Where one or more negative limbs apply, a deduction will not be allowed under the general deduction provisions. This will be the case if a specific provision still excludes the expense as deductible, it will not be deductible. The second step is outlining the negative limbs as per section 8-1(2)(a) (b) (c) (d) of the ITAA 1997. This distinguishes what is capital or revenue in nature. Case law has been used to distinguish the expenses. The Sun Newspapers Ltd v FC of T [1938] HCA 73, Dixion J said to consider three matters: 1. The character of the advantage sought 2. The way it is to be used, relied upon or enjoyed 3. The means adopted to obtain it. The costs are checked if they are producing a lasting or recurrent advantage. If the advantage is long lasting, it is considered a capital cost in nature. A capital amount can be received in regular payments and does not necessarily need to be received as a lump sum. A taxpayer must incur the legal costs, there must be a clear connection in the receipt of the income protection insurance payments, and they must result in gaining assessable income to be deductible. Other court cases and significant court decisions have determined that for an expense to be an allowable deduction: • it must have the essential character of an outgoing incurred in gaining assessable income or, in other words, of an income-producing expense (Lunney v. FC of T; (1958) 100 CLR 478), • there must be a nexus between the outgoing and the assessable income so that the outgoing is incidental and relevant to the gaining of assessable income (Ronpibon Tin NL v. FC of T, (1949) 78 CLR 47), and • it is necessary to determine the connection between the particular outgoing and the operations or activities by which the taxpayer most directly gains or produces his or her assessable income (Charles Moore Co (WA) Pty Ltd v. FC of T, (1956) 95 CLR 344; FC of T v. Hatchett, 71 ATC 4184). In your case, the legal costs relating to the TPD payments are excluded from deductibility because they are capital in nature as a result of being incurred to gain a capital amount. The advantage sought for the legal costs is regular income because you are unable to return to work as outlined below. The legal costs are a one-off transaction. The advantage sought is long lasting. "By letter dated 11 August 20XX, it was noted that as a self-insured employer accepted the claim for income and medical expenses. Specifically, whilst there are a number of benefits available under the Income Protection policy, as our client is unable to return to work, the primary definition applicable in this instance is that under clause 3.5.1 "Total Disability Benefit. Having sustained the injury during the course of his employment, a workers compensation claims under the Return to Work Act 2014 2014 was lodged." | Detailed Reasoning - Capital v revenue: 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 capital nature, then the expenses incurred in gaining the advantage will also be of a capital nature. Legal expenses incurred to receive compensation for loss of future earnings are not deductible as they are considered to provide an enduring advantage and are therefore capital in nature. The advantage sought by you in undertaking the action is the restoration of a capital asset, that is, your means of producing income. As such, the character of the legal expenses associated with this action are considered to be capital in nature and the expenses are not deductible under section 8-1 of the ITAA 1997 ( Case Y24 91 ATC 268; AAT Case 6942 (1991) 22 ATR 3184). | Detailed Reasoning - Legal action after resignation: After resignation, as you were no longer an employee of the employer and there was no current employment agreement, the legal action taken is not considered to be sufficiently connected to your income earning activities. Furthermore, as highlighted above, action taken in relation to your resignation is capital in nature because it was required to receive a capital amount. Therefore, the legal expenses relating to action taken after your resignation is not deductible under section 8-1 of the ITAA 1997. In your case, you would like to claim the cost of making successful standalone Income Protection Claim. This is not for lost wages, termination or dismissal. As outlined at paragraph 5 of Taxation Determination TD 93/29, legal expenses relating to an action for damages for wrongful dismissal are not deductible as the claim is of a capital nature. It is irrelevant if any amount awarded to the employee is calculated by reference to unpaid salary or lost income. In your case, legal expenses incurred in seeking compensation for loss of employment, such as in an action for discharge or forced resignation, are not deductible. It is irrelevant if any amount awarded to the employee is calculated by reference to unpaid salary or lost income.