Private ruling: Deduction-settlement amount
Published: July 2011
Ruling period: Year ended 30 June 2010
Date scheme commenced: 1 July 2009

Ruling: Q1: Are you entitled to a deduction for the settlement amount? | A1: 


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 deduction for all losses and outgoings to the extent that they are incurred in gaining or producing assessable income, or necessarily incurred in carrying on a business for the purpose of 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. For the settlement sum to constitute an allowable deduction, it must be shown that it was 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) 4 AITR 236; (1949) 8 ATD 431). Also, in determining whether a deduction for the settlement sum is allowable 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 settlement sum follows the advantage that is sought to be gained by incurring the expenditure. Therefore, payments as a result of legal action 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) 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) 11 ATR 276; 80 ATC 4542). In your case, you were subject to the legal action in relation to activities you undertook which resulted from a breach of an agreement with the entity. A review of the deed does not indicate the breach relates to any daily business activity carried out during the period you were engaged with the entity under the agreement or as a consequence of the performance of your business activity from which you derived assessable income. It is not relevant how the settlement amount was determined. You paid the amount to finalise the legal proceedings against you in relation to using the information of the entity in your business and allowed you to continue to carry on your business without this impediment. It allowed you to continue to derive assessable income from your business. The use of entity's information was a significant capital asset upon which your business was established and operated and formed part of the profit yielding structure of your business. It is considered that the outgoing was reasonably capable of being seen as desirable or appropriate from the point of view of the pursuit of the business ends. The out of court settlement brought into existence an asset or an advantage for the enduring benefit of your business. The settlement payment is therefore capital in nature (British Insulated & Helsby Cables v. Atherton (1926) AC 205). The settlement sum you paid for using the entity's information and for breaching the agreement is not deductible under section 8-1 of the ITAA 1997.

Please check this edited version to be sure that there are no details remaining that you think may allow you to be identified. Contact us at the address given in the fact sheet if you have any concerns. | Relevant facts: The arrangement that is the subject of the private ruling is described below. This description is based on the following documents. These documents form part of and are to be read with this description. The relevant documents are: | · a private ruling application | · a Deed of Settlement and Release (the deed) | · a statutory declaration in relation to Deed of Settlement and Release. | You entered into an agreement with an entity. | The agreement allowed access to the company's licence and an entitlement to paid commissions. | Under the terms of the agreement you were obliged to: | · protect certain confidential information held by the entity | · reimburse the entity for any breach of the agreement. | You terminated the agreement a number of years ago. | You retained the entity's information and use the information to continue to receive income from the entity's clients. | The entity took legal action against you for breach of the agreement.