Private ruling: Deductibility of legal expenses
Date of advice: 2 June 2026
Published: 17 August 2026
Ruling period: Year ended 30 June 20XX | Year ended 30 June 20XX
Date scheme commenced: 30 June 20XX

Ruling: Q1: Are the legal and expert fees incurred by the company in relation to the proceedings against the purchaser deductible under section 8-1 of the Income tax Assessment Act 1997 (ITAA1997)? | A1: No. | Q2: Are the legal and expert fees incurred by the company in relation to proceedings against the purchaser part of the cost base of the CGT asset under subsection 110-25(3) and section 110-35 of the ITAA1997? | A2: Yes. | Q3: Are the legal and expert fees incurred by the company in relation to the proceedings against the purchaser deductible under section 40-880 of the ITAA1997? | A3: Yes.

Relevant facts and circumstances: The company was incorporated in 19XX. The shareholders of the company are 2 individuals who each own 50% of the ordinary shares issued in the company. The company has been operating the business since 20XX. In a Business Sale Agreement signed in June 20XX, an unrelated company (the purchaser) acquired the company's business from the company. Under clause XX of the Agreement, the sale of the business was effective on and from the Effective Date, which was X. This is the date when the purchaser took over all running of the business, upon an agreement in principle being made. Under clause X of the Agreement, the agreed consideration was as follows: • 25% of the issued shares of the purchaser • Earnout payments contingent on gross profit The Business Sale Agreement at Clause X, states that if the purchaser did not pay a payment for any reason, the sale would be reversed, and all ownership revert to the company. The purchaser calculated that Gross Profit would be less than outlined in the Business Sale Agreement, which would result in lower earnout payments. The company disputed this, stating the purchaser's calculation was invalid and contrary to the way Gross Profit was defined in the contract. In MM 20XX the parties agreed to appoint a third party Expert to determine the matter. In MM 20XX, the matter was determined entirely to the company's favour. The purchaser then disputed the validity of the Expert's Determination. The company initiated legal action in Federal Court to uphold the Expert Determination and thus claim full payment to date, with a view to either being paid the amounts owed or recovering the business. Judgment was made in MM 20XX, upholding the Expert Determination and ordering the purchaser to pay the full amount calculated at the time the Court affidavits were made. In MM 20XX, another Judgment increased the judgement to the current value plus interest and made the following declarations: • The purchaser was unable to pay the Purchase Price instalments as per clause XX of the Business Sale Agreement • The Business Sale Agreement was terminated • Operating control of the Business and all assets were to be returned to the company; and • The purchaser pays the company's costs In MM 20XX, the purchaser appointed Administrators. No money including legal costs could be retrieved from the purchaser. The company retrieved full operational control and has resumed full operation of the business since MM 20XX. Question 1 Are the legal and expert fees incurred by the company in relation to the proceedings against the purchaser deductible under section 8-1 of the Income tax Assessment Act 1997 (ITAA 1997)? Summary The legal and expert expenses incurred by the taxpayer in relation to the proceedings against the purchaser are not deductible under section 8-1 of the ITAA 1997. Detailed reasoning Section 8-1 of the ITAA 1997 There are two positive limbs of the provision are contained in s 8-1(1), which provides that you can deduct from your assessable income any loss or outgoing to the extent that: (a) it is incurred in gaining or producing your assessable income; or (b) it is necessarily incurred in carrying on a business for the purpose of gaining or producing your assessable income The negative limbs are contained in subsection 8-1(2) which prevents deductions for losses or outgoings to the extent that: (a) loss or outgoing of capital, or of a capital nature; or (b) it is a loss or outgoing of a private or domestic nature; or (c) it is incurred in relation to gaining or producing your exempt income or your non-assessable non-exempt income; or (d) a provision of this Act prevents you from deducting it. Expenses will be deductible under section 8-1 if either of the positive limbs in subsection 8-1(1) are satisfied and it does not fall within the negative limbs in subsection 8-1(2). The Positive limbs To be deductible under section 8-1 of the ITAA 1997, the positive limbs in subsection 8-1(1) require there to be a connection (nexus) between the payment made and the gaining or production of its assessable income, or the carrying on of its business for that purpose. In determining whether a loss or outgoing is characterised as having been incurred in gaining or producing assessable income, the courts have considered whether the loss or outgoing is incidental and relevant to the operations or activities regularly carried on by the taxpayer for the production of income. The High Court in Ronpibon Tin NL v FC of T [1949] HCA 15; (1949) 78 CLR 47 ( Ronpibon ) at 57 said that: For expenditure to form an allowable deduction as an outgoing incurred in gaining or producing the assessable income it must be incidental and relevant to that end. The words "incurred in gaining or producing the assessable income" mean in the course of gaining or producing such income... Notwithstanding the differences in other respects in the present provision, the expression "incurred in gaining or producing the assessable income" has been left unchanged and bears the same meaning. In brief substance, to come within the initial part of the sub-section it is both sufficient and necessary that the occasion of the loss or outgoing should be found in whatever is productive of the assessable income or, if none be produced, would be expected to produce assessable income. The loss or outgoing must be incidental and relevant in the sense of having the essential character of a business or income-producing expense. In Lunney v Commissioner of Taxation [1958] HCA 5; (1958) 100 CLR 478 at 497-499 the Court said: Examination of [earlier] cases,... shows that the expression 'incidental and relevant' was not used in an attempt to formulate an exclusive and exhaustive test for ascertaining the extent of the operation of the section; the words were merely used in stating an attribute without which an item of expenditure cannot be regarded as deductible under the section... In the context in which they have been used the expressions relied upon... have been intended as a reference, not necessarily to the purpose for which an item of expenditure has been incurred, but, rather, to the essential character of the expenditure itself... For a loss or outgoing to be deductible under paragraph 8-1(1)(b), the loss or outgoing must be necessarily incurred in carrying on a business for the purpose of gaining or producing assessable income. Per Latham CJ, Rich, Dixon, McTiernan and Webb JJ in Ronpibon (at CLR 56 ): The word 'necessarily' no doubt limits the operation of the alternative, but probably it is intended to mean no more than 'clearly appropriate or adapted for'. Hill J summarised the principles in FC of T v Firth [2002] FCA 413 at [6 ] as: The positive tests require that there be a connection between the loss or outgoing on the one hand and the assessable income or business on the other. The nature of that connection has been expressed in different ways in the cases. It is sometimes said that there must be a 'perceived connection' between the loss or outgoing and the assessable income or business: FC of T v Hatchett 71 ATC 4184 at 4187... In other cases it has been said that the expenditure must be 'incidental and relevant ' to the operations or activities regularly carried on by the taxpayer for the production of income: Ronpibon Tin NL & Tongkah Compound NL v FC of T (1949) 8 ATD 431 at 435; (1949) 78 CLR 47 at 56, FC of T v Smith 81 ATC 4114 at 4117. These ways of describing the connection that is a necessary prerequisite to deductibility are but part of the process of identifying the essential character of the expenditure in order to determine whether a particular loss or outgoing is in fact incurred in gaining or producing the assessable income or in carrying on a business which more directly contributes to the gaining or production of the assessable income: Lunney v FC of T (1958) 11 ATD 404; (1957-1958) 100 CLR 478 at 413 and 499 respectively. In Commissioner of Taxation (Cth) v Murry [1998] HCA 42 at [54 ], Gaudron, McHugh, Gummow and Hayne JJ observed: ...A business is not a thing or things. It is a course of conduct carried on for the purposes of profit and involves notions of continuity and repetition of actions. The cost of acquiring a business is not a cost of carrying on that business The cost of acquiring a business is not a cost of carrying on that business for the purpose of gaining or producing assessable income. It lacks the nature of an " operating expense " and hence falls outside the ambit of the positive limbs of section 8-1 of the ITAA 1997. For example, Menzies J commented in John Fairfax & Sons Pty Ltd v FC of T (1959) 11 ATD 510 at p 519; (1959) 101 CLR 30 at p 48: " To make a payment to acquire or to defend the acquisition of a favourable position from which to earn income or to enter into arrangements that will yield income is not in general an outlay incurred either in gaining or in carrying on business for the purpose of gaining assessable income; such a payment in the case of a trading company occurs at a stage too remote from the receipt of income to be so regarded. To be deductible an outlay must be part of the cost of trading operations to produce income, ie, it must have the character of a working expense. " Capital losses or outgoings - first negative limb It is clear that losses or outgoings of capital or of a capital nature may fall within either or both the positive limbs. The need for an excepting provision in relation to outgoings of capital or of a capital nature was explained by Dixon CJ in John Fairfax & Sons Pty Ltd v FC of T (1959) 101 CLR 30. His Honour said (at p 34): " Perhaps the most important thing to notice in sub-sec (1) is the character of the phrase ' except to the extent to which they are losses or outgoings of capital, or of a capital nature '. Its character is that of an exception which necessarily presupposes the possibility of the subject matter excepted falling under the description that precedes it. In other words, it is supposed by the sub-section that a loss or outgoing incurred in gaining or producing the assessable income or in carrying on a business for that purpose may nevertheless be a loss or outgoing of capital. " There is no statutory criterion for determining whether a loss or outgoing is of capital or of a capital nature in ITAA 1997. The concept of " capital " is normally contrasted with that of " revenue ". It is said that no deduction is allowed if a particular loss or outgoing is " on capital account " but a deduction is allowed if the loss or outgoing is " on revenue account ". Attempts by the courts to formulate distinguishing features, or reasons for finding that a particular item of expenditure falls into one category or the other, have given rise to substantial difficulties. The courts have identified the following factors that may be taken into consideration to determine whether a loss or outgoing is capital or revenue in nature. 1. The " profit yielding structure " 2. Recurrent and " once and for all " expenditure 3. Enduring benefit 4. Fixed or circulating capital 5. Requirement of an " economic sense" Consequently, application of section 8-1 of the ITAA 1997 to your circumstances, considering the above comments, is discussed below. Application to your circumstances 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. In determining whether a deduction for legal expenses is allowed under section 8-1 of the ITAA 1997, the nature of the expenses must be considered ( Hallstroms Pty Ltd v. Federal Commissioner of Taxation (1946) 72 CLR 634). The nature or character of the legal expenses follows the advantage sought to be gained by incurring the expenses, that is whether the legal expenses are incurred for a capital or revenue purpose. The outcome of the legal action does not affect the deductibility of the legal expense, rather the nature or character of the legal expenses follows the advantage that is sought to be gained by incurring the expenses. In determining whether these expenses are of a revenue or capital nature the character of the advantage sought, the manner in which it is to be used, and the means adopted to obtain it must be established. The courts, on a number of occasions, have determined legal expenses to be an allowable deduction if the expenses arise out of the day-to-day income producing activities of the taxpayer ( The Herald and Weekly Times Ltd v. FC of T (1932) 48 CLR 113). The action out of which the legal expense arises must have more than a peripheral connection to the taxpayer's business or income earning activities. There must be an evident connection between the incurring of the legal expenses and the taxpayer's earning activities In your case, the expenses incurred are not deductible under section 8-1 of the ITAA 1997, as these expenses were not incurred to gain or produce the company's assessable income or necessarily incurred in carrying on a business for the purpose of gaining or producing the company's assessable income. Therefore, the positive limb of section 8-1 of the ITAA 1997, being subsection 8-1(1) of the ITAA 1997, has not been satisfied. Moreover, the legal and expert expenses incurred by the company are capital in nature - they were incurred to establish contractual rights in relation to the disposal of the business, as a part of the agreement in relation to the business' sale. In other words, the nature or character of the legal expenses follows the advantage that is sought by you in relation to your rights as a vendor regarding the sale of your business. This advantage has a lasting character and is gained by incurring the expenses. As a result, the first negative limb under section 8-1 of the ITAA 1997, being paragraph 8-1(2)(a) of the ITAA 1997, has been satisfied. As a result, the expenses incurred by the company in relation to legal and expert fees are not deductible under section 8-1 of the ITAA 1997.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. In determining whether a deduction for legal expenses is allowed under section 8-1 of the ITAA 1997, the nature of the expenses must be considered ( Hallstroms Pty Ltd v. Federal Commissioner of Taxation (1946) 72 CLR 634). The nature or character of the legal expenses follows the advantage sought to be gained by incurring the expenses, that is whether the legal expenses are incurred for a capital or revenue purpose. The outcome of the legal action does not affect the deductibility of the legal expense, rather the nature or character of the legal expenses follows the advantage that is sought to be gained by incurring the expenses. In determining whether these expenses are of a revenue or capital nature the character of the advantage sought, the manner in which it is to be used, and the means adopted to obtain it must be established. The courts, on a number of occasions, have determined legal expenses to be an allowable deduction if the expenses arise out of the day-to-day income producing activities of the taxpayer ( The Herald and Weekly Times Ltd v. FC of T (1932) 48 CLR 113 ). The action out of which the legal expense arises must have more than a peripheral connection to the taxpayer's business or income earning activities. There must be an evident connection between the incurring of the legal expenses and the taxpayer's earning activities. In your case, the expenses incurred are not deductible under section 8-1 of the ITAA 1997, as these expenses were not incurred to gain or produce the company's assessable income or necessarily incurred in carrying on a business for the purpose of gaining or producing the company's assessable income. Therefore, the positive limb of section 8-1 of the ITAA 1997, being subsection 8-1(1) of the ITAA 1997, has not been satisfied. Moreover, the legal and expert expenses incurred by the company are capital in nature - they were incurred to establish contractual rights in relation to the disposal of the business, as a part of the agreement in relation to the business' sale. In other words, the nature or character of the legal expenses follows the advantage that is sought by you in relation to your rights as a vendor regarding the sale of your business. This advantage has a lasting character and is gained by incurring the expenses. As a result, the first negative limb under section 8-1 of the ITAA 1997, being paragraph 8-1(2)(a) of the ITAA 1997, has been satisfied. As a result, the expenses incurred by the company in relation to legal and expert fees are not deductible under section 8-1 of the ITAA 1997. Question 2 Are the legal and expert fees incurred by the taxpayer in relation to proceedings against the purchaser form part of the cost base of the CGT asset under subsection 110-25(3) and section 110-35 of the ITAA 1997? Summary The legal and expert fees incurred by you in relation to proceedings against the purchaser of your business form part of the cost base of the CGT asset, being your business, under section 110-25 and section 110-35 of the ITAA 1997. Detailed Reasoning CGT Event In most cases, capital proceeds and cost base (or reduced cost base) are taken into account in working out a capital gain or capital loss from a capital gains tax (CGT) event The expenditure could be taken into account in capital proceeds if it reduced the capital proceeds from a CGT event. However, no CGT event happens in respect of which there are capital proceeds that are reduced by the expenditure. The expenditure could alternatively be taken into account in cost base (or reduced cost base) if it forms part of the cost base (or reduced cost base) of a CGT asset. As a result, below we consider whether the sale of your business that falls through after the completion date due to the failure by the purchaser to pay the first instalment of the purchase price, which led to the return of the business to you after your legal proceedings, creates a CGT asset separate to the business and, as a consequence, leads to a CGT event. CGT Asset Taxation Ruling TR 94/29 Income tax: capital gains tax consequences of a contract for the sale of land falling through (TR 94/29) is concerned with the capital gains tax (CGT) consequences under Part IIIA of the Income Tax Assessment Act 1936 (ITAA 1936) on the sale of land under a contract which for various reasons falls through and the land is returned to the vendor intact. The principles outlined in TR 94/29 can be applied to your situation. Paragraph 17 of TR 94/19 states that in the circumstances of the contract falling through after the completion date due to the failure by the purchaser to pay the first instalment of the purchase price, the relevant asset for CGT purposes is constituted either by: (a) the right of action (the 'right to sue') which vests on the vendor upon the breach of contract by the purchaser; or (b) the notional asset created under subsection 160M(7) of the ITAA 1936. In either case the cost base of the asset will be limited to the incidental costs to the vendor on the disposal of the asset. Importantly, paragraph 18 of TR 94/19 states as follows: '18. The right to sue is acquired at the time of breach of the contract. Disposal of the right to sue would arise upon settlement of the action or upon issue of a court order awarding damages in favour of the vendor. Where the right to sue arises after 25 June 1992 the new provisions of subsection 160M(6) introduced by the Taxation Laws Amendment Act (No 4) 1992 (TLAA (No 4) 1992) will apply as explained in paragraphs 65 and 66.' Moreover, in accordance with paragraph 36 of TR 94/19, where the purpose of a transaction is to dispose of one of the new proprietary rights created, carved out or severed from the bundle, the CGT provisions will apply to that proprietary right as a separate asset. Moreover, paragraph 28 of TR 94/19 explains how the breach of contract affects contractual rights, distinguishing rights unconditionally acquired from future contractual obligations, by stating as follows: 28. In the majority of cases a contract is treated as validly made but may be brought to an end by reason of events (such as breach) which happen subsequently to its formation. Here a contract is said to be rescinded in futuro, that is, the parties are absolved from future performance of their obligations. Rights which have been unconditionally acquired, however, are not divested or discharged (McDonald's case). Only obligations required to be performed in the future will not be required to be performed. Where the purchaser is in default, the vendor is entitled to retain the deposit or to recover any deposit unpaid ( Farrant v. Leburn [1970] WAR 179; Dewar v. Mintoft (1912) 2 KB 373; Watson v. Healy Lands Ltd [1965] NZLR 511; Bot v. Ristevski [1981] VR 120 ). In the circumstances, any deposit paid is said to be forfeited. Right to sue as a separate CGT Asset The right to sue is often the term used to describe the cause of action or the right of action that arises in favour of the innocent party where a contract is breached by the other party to the contract. There is some judicial support for the view that the right to sue is an asset for CGT purposes. In Hepples v. FC of T 91 ATC 4808; (1991) 22 ATR 465 McHugh J appears to recognise that the right to sue bears the character of a proprietary right once it is vested in the grantee. At 4840 His Honour says: 'When a person creates a right in another person to sue him or her, the grantor does not dispose of any asset of his or her own. The personal right to sue is never vested in the grantor, even momentarily. It is only when the right to sue is vested in the grantee, and not before, that it bears the character of a proprietary right.' Moreover, the right to sue is acquired at the time of breach of the contract. Disposal of the right to sue would arise upon settlement of the action or upon issue of a court order awarding damages in favour of the vendor. Taxation Ruling 1999/19 Income tax capital gains: treatment of forfeited deposits (TR 1999/19), applies to damages received by a vendor as a result of a defaulting purchaser's breach of contract, that states in relation to the cost of the asset, being the vendor's contractual rights, as follows: Cost base 73. The first element of cost base of the vendor's contractual rights includes the market value of any property they gave, or are required to give, in respect of acquiring the rights (paragraph 110-25(2)(b)). Although the vendor may have given property, being contractual rights given to the purchaser to have the real estate transferred, the market value of this property is nil because of the corresponding contractual obligation of the purchaser to pay the purchase price. So, the first element of cost base of the vendor's contractual rights is zero. 74. There may be incidental costs of acquisition in terms of section 110-35 which are included in the second element of the cost base under paragraph 110-25(3)(a). Legal fees incurred by the vendor of the underlying asset (being the one who is acquiring the contractual rights) in entering into the contract are incidental costs of acquisition of the contractual rights if the contract falls through and there is no later disposal within a 'continuum of events'. If a later disposal occurs within a 'continuum of events', or if the contract does not fall through but is completed in the normal manner, we consider that such costs are part of the incidental costs that relate to the disposal of the underlying asset (paragraph 110-25(3)(b), section 104-10). Therefore, legal fees incurred by taxpayers should form part of the cost base of the underlying CGT and are covered under the second element as legal advisor fees, which are incidental fees incurred in relation to a CGT event that happens in relation to the CGT asset (subsection 110-25(3) and section 110-35 of the ITAA 1997). The fees paid to the expert for his determination are not included as incidental costs in the second element, as they are not legal professional fees. These are fees that are expenditure that has been incurred to establish, preserve or defend your title to the asset, or a right over the asset (subsection 110-25(6) of the ITAA 1997). Specifically, the expert fees were incurred to establish your right to payment of the instalments of purchase price for the sale of the underlying asset pursuant to the business sale agreement The meaning of underlying assets is discussed below. Underlying Assets Taxation Ruling TR 95/35 Income tax: capital gains: treatment of compensation receipts (TR 95/35) applies to a person who receives an amount as compensation. It considers the capital gains tax ('CGT') consequences for the recipient of the amount, and whether the amount should be included in the assessable income of the recipient under Part IIIA of the ITAA 1936. Relevant definitions from TR 95/35 are outlined below: Compensation receipt A compensation receipt, or compensation, includes any amount (whether money or other property) received by a taxpayer in respect of a right to seek compensation or a cause of action, or any proceeding instituted by the taxpayer in respect of that right or cause of action, whether or not: • in relation to any underlying asset; • arising out of Court proceedings; or • made up of dissected amounts. Look-through approach The look-through approach is the process of identifying the most relevant asset. It requires an analysis of all of the possible assets of the taxpayer in order to determine the asset to which the compensation amount is most directly related. It is also referred to in this Ruling as the underlying asset approach. Underlying asset The underlying asset is the asset that, using the 'look-through' approach, is disposed of or has suffered permanent damage or has been permanently reduced in value because of some act, happening, transaction, occurrence or event which has resulted in a right to seek compensation from the person or entity causing that damage or loss in value or against any other person or entity. If there is more than one underlying asset, the relevant underlying asset is the asset which leads directly to the payment of the amount of compensation. For example, if a taxpayer receives an amount of compensation for the destruction of his or her truck, the truck is the underlying asset. Importantly, if the amount of compensation is not received in respect of any underlying asset, the amount relates to the disposal by the taxpayer of the right to seek compensation. Accordingly, any capital gain arising on the disposal of that right is calculated using the cost base of that right (paragraph 11 of TR 95/35). For completeness, ATO ID 2003/790 Income Tax CGT: Acquisition of CGT asset - satisfaction of rights to have asset transferred to purchaser (ATO ID 2003/790) discusses whether CGT event C2 in section 104-25 of the ITAA 1997 happens when the taxpayer's contractual rights for the purchase of the asset are satisfied by the actual transfer of ownership of the asset. The Reasons for Decision outlined in ATO ID 2003/790 are presented below: The UK case of Zim Properties Ltd v. Proctor (H M Inspector of Taxes) (1985) STC 90; 58 TC 371 (Zim Properties Case) concerned damages received by a vendor against a solicitor for negligence, where the buyer rescinded the contract of sale upon the failure of the vendor's solicitor to demonstrate good title to the property. The court took the approach that it was necessary to determine whether the damages were received in respect of the underlying property or the right to sue arising on the solicitor's default. The decision in the Zim Properties Case is relevant to the Australian CGT provisions in that many transactions can be broken down into several sub-transactions, each of which might independently attract the operation of those provisions. In such situations, it is relevant for the Commissioner to consider what the real transaction is. An executory contract for the transfer of a CGT asset is, by definition, itself a CGT asset. The subsequent performance of the contract discharges and satisfies the contractual rights and on the face of it may cause a CGT event C2 to happen. However, in such circumstances, the real transaction is the acquisition of the underlying CGT asset (the property) rather than the ending of the rights that merely facilitate that acquisition. This approach is consistent with the view expressed in Taxation Ruling 95/35 regarding compensation receipts and identifying the relevant asset for the purposes of the CGT provisions. In determining what the most relevant asset or transaction is, it is often appropriate to adopt a 'look-through' approach to the transaction or arrangement. Accordingly, where the change of ownership of a CGT asset occurs under a contract, the CGT provisions of the ITAA 1997 will apply only to the acquisition of the underlying asset and not to the rights that merely facilitate the transaction. Note: This ATO Interpretive Decision does not address the situation where the purchaser deals with the contractual rights other than by simply completing the purchase in accordance with the contract, for example, by assigning the contractual right to have the property conveyed. Such dealings are likely to be CGT events. The relevant CGT events in relation to your circumstances are briefly outlined below. CGT Event A1 CGT event A1 happens if a taxpayer disposes of a CGT asset. A taxpayer disposes of a CGT asset if a change of ownership of the asset occurs from the taxpayer to another entity, whether because of some act or event or by operation of law. In your case, CGT event A1 has happened twice - upon signing the contract of sale of your business and once the business was transferred back to you by the purchaser, following the Court order. Therefore, the conditions contained in section 104-10 of the ITAA 1997 regarding CGT Event A1, being disposal of the business, are satisfied in relation to each disposal. CGT Event C2 CGT event C2 happens if a taxpayer's ownership of an intangible CGT asset ends by the asset: • being redeemed or cancelled • being released, discharged or satisfied • expiring (see below) • being abandoned, surrendered or forfeited • if the asset is an option - being exercised • if the asset is a convertible interest - being converted. An "intangible asset" is one that lacks a physical presence. Paragraph 3 of TR 93/35 states that the right to seek compensation is the right of action arising at law or in equity and vesting in the taxpayer on the occurrence of any breach of contract, personal injury or other compensable damage or injury. Accordingly, your right to sue, which was gained upon breach of the contract of sale of your business, is considered as an intangible asset. In your case, CGT Event C2, contained in section 104-25 of the ITAA 1997, has happened upon issuing the Court order, as your right to sue has been satisfied. Non-receipt rule The amount of a capital gain or of a capital loss that is made by a taxpayer in a year of income as a result of a CGT event is determined by reference to the capital proceeds from the event. The general rule is that the capital proceeds is the amount of any money, or the market value of any property, which the taxpayer has received, or is entitled to receive, in respect of the event, as presented in section 116-45 of the ITAA 1997. A mere entitlement to receive money or other property is considered in determining the tax liability of the taxpayer in the year in which the event occurs. It is, therefore, necessary for provision to be made to cover the situation where some or all of the money or property to which the taxpayer is entitled is not received by the taxpayer for some reason. Modification 3 to the general proceeds rule is the non-receipt rule in section 116-45 of the ITAA 1997. Under this provision if a taxpayer is not likely to receive some or all (the "unpaid amount'') of the capital proceeds from a CGT event, then the capital proceeds are reduced by the unpaid amount, provided: • the likely non-receipt by the taxpayer of the whole or part of the capital proceeds is not because of anything done, or omitted to be done, by the taxpayer or by an associate of the taxpayer; and • the taxpayer took all reasonable steps to get the unpaid amount paid. For section 116-45 of the ITAA 1997 to apply, some or all of the capital proceeds must be "not likely'' to be received. The use of the word "likely'' may well cause difficulty in view of the wide range of meanings possible, and the considerable difference of judicial opinion as to the meaning of the word in various contexts. In Radio 2UE Sydney Pty Ltd v Stereo FM Pty Ltd (1982) 44 ALR 557 at p 564 Lockhart J said: "The word 'likely' is susceptible of various meanings. It may mean 'probable' in the sense of more likely than not or more than a 50 per cent chance. It may mean a real or not remote possibility. There are other possible meanings.'' Relevantly, the CGT provisions apply to the debt owed to the taxpayer for the unpaid amount as if it were not a CGT asset (subsection 116-45(3) of the ITAA 1997). This means that a taxpayer cannot get both a reduction in capital proceeds for the unpaid amount and also a capital loss for the disposal of the debt. The application of the above presented rules to your situation is discussed below. Application to your circumstances Your business is considered as a CGT asset for the purposes of capital gains tax. You disposed of your business at the time of entering into the contract for its disposal. As a result, entering into the contract for the disposal of your business triggered a CGT event A1 for the purposes of capital gains tax. You acquired the right to sue at the time of breach of the contract. This right constitutes a CGT asset for the purposes of capital gains tax. Once the Court issued an order, your right to sue was satisfied, constituting CGT event C2 - your CGT asset has been satisfied. However, as explained above, where the change of ownership of a CGT asset occurs, the CGT provisions of the ITAA 1997 will apply only to the acquisition of the underlying asset and not to the rights that merely facilitate the transaction. As the relevant underlying asset is the asset which leads directly to the payment of the amount of compensation (or, as in your case, capital loss incurred by you due to lack of payments that you should receive in relation to the Court order), the relevant underlying asset is your business, which you have now reacquired. Once the business ownership has been transferred back to you within 21 days after issuance of the Court order in August 20XX, another CGT event, being CGT event A1, has happened. As such, your expenses should be included in the cost base of your business upon its first disposal. In other words, the cost base of your business should include legal and expert fees incurred by you. Accordingly, the legal fees incurred by you should be included in the second element of the cost base of your business (subsection 110-25(3) and section 110-35 of the ITAA 1997), and the advisory fees incurred by you should be included in the fifth element of the cost base of your business ( subsection 110-25(6) of the ITAA 1997) in relation to CGT event A1 which occurred on your initial disposal of the business Question 3 Are the legal and expert fees incurred by the company in relation to the proceedings against the purchaser deductible under section 40-880 of theITAA 1997? Summary Legal and related costs incurred by the company in relation to the proceedings against the purchaser are not deductible under section 40-880 of the ITAA 1997 as these costs are taken into account in working out the amount of a capital gain or capital loss from a CGT event. Detailed Reasoning Section 40-880 of the ITAA 1997 Section 40-880 of the ITAA 1997 allows certain business capital expenditure to be deducted in equal proportions over five income years. Importantly, it is a provision of last resort such that a deduction is not available under section 40-880 of the ITAA 1997 if the expenditure is otherwise available under some other provision (paragraph 40-880(1)(a) of the ITAA 1997). This view is also confirmed by Taxation Ruling TR 2011/ 6 Income tax: business related capital expenditure - section 40-880 of the Income Tax Assessment Act 1997 core issues ( TR 2011/6) which sets out the Commissioner's views on the interpretation of the operation and scope of section 40-880 of ITAA 1997 as follows: 246. This paragraph replicates the exclusion contained in former paragraph 40-880(3)(e). The 2002 Explanatory Memorandum, which introduced the original exclusion, notes that it gives effect to the policy intention that section 40-880 is a provision of last resort. Accordingly, if expenditure is already dealt with by the income tax law because it is reflected in either a profit or a loss calculation then it is outside the scope of section 40-880. Paragraph 40-880(5)(f) of the ITAA 1997 provides that a taxpayer cannot deduct anything under section 40-880 for an amount of expenditure you incur to the extent that it could apart from section 40-880 be taken into account in working out the amount of a capital gain or capital loss from a CGT event. Application to your circumstances Section 40-880 only applies to expenditure if no other provision allows or denies a deduction or otherwise takes the expenditure into account. To the extent the expenditure was incurred in working out the amount of a capital gain or capital loss from a CGT event, being the first CGT event A1, as explained above, this expenditure is not deductible under section 40-880 of the ITAA 1997.