Fct v la rosa

Chapter 12

General deductions

 2018 Thomson Reuters (Professional) Australia Ltd. All Rights Reserved. Jonathan Teoh, Monash University

Introduction • The main provision that provides taxpayers a deduction for

an expense is the general deduction provision:

• Section 8-1 has the potential to apply to any taxpayer.

• A loss or outgoing (ie, an expense) may:

–Be deductible under s 8-1 and a specific provision. In these cases, use the “most appropriate” provision: s 8-10.

–Not qualify for a deduction under a specific provision. In these cases, consider deductibility under s 8-1.

Deductions General

Deductions (s 8-1)

Specific Deductions

(s 8-5)

PoTL 2018 paragraph [12.10]

General deduction rule: Positive limbs • A taxpayer can deduct from his or her assessable income a

loss or outgoing to the extent that it is (s 8-1(1)):

• Only one of the two positive limbs needs to be satisfied.

1 • Incurred in gaining or producing

assessable income; or

2

• Necessarily incurred in carrying on a business for the purpose of gaining or producing assessable income.

PoTL 2018 paragraph [12.20]

General deduction rule: Negative limbs • However, a loss or outgoing is not deductible under the general

deduction rule if it satisfies any of the negative limbs (s 8-1(2)):

• Deductibility is determined from the perspective of the taxpayer which incurs the loss or outgoing.

1 • Capital or capital in nature;

2 • Private or domestic;

3 • Incurred in gaining exempt or non-assessable

non-exempt income; or

4 • Prevented from being deducted by a specific

provision of the income tax legislation.

PoTL 2018 paragraph [12.20]

General deduction rule: Loss or outgoing • Section 8-1 applies to both a loss and outgoings:

– Loss: depletion of a taxpayer’s financial position: Charles Moore & Co (WA) Pty Ltd v FCT (1956)

– Outgoing: eg, an expense.

• Determining whether there is a loss or outgoing is not generally an issue in claiming a deduction under s 8-1.

PoTL 2018 paragraph [12.30]

Nexus test – positive limbs of s 8-1 • First positive limb • Requires a nexus between:

• Second positive limb • Requires a nexus between:

Loss / outgoing eg, expense

Gaining or producing assessable income

Nexus / connection

Loss / outgoing eg, expense

Carrying on a business to produce assessable income

Nexus / connection PoTL 2018 paragraph [12.40]

Nexus test – positive limbs of s 8-1: “Gaining or producing assessable income” • “Gaining or producing assessable income” to be interpreted as:

– “in the course of gaining or producing assessable income”: Amalgamated Zinc (De Bavay’s) Ltd v FCT (1935)

Loss / outgoing eg, expense

Gaining or producing assessable income

Nexus / connection: Must be sufficient and necessary that the loss or outgoing is:

1.Productive of assessable income; or 2.Expected to produce assessable income

PoTL 2018 paragraph [12.40]

Nexus test – positive limbs of s 8-1: Judicial tests • The courts have adopted a number of approaches to determine

whether a loss or outgoing is incurred in the course of gaining or producing assessable income:

1 • The incidental and relevant test;

2 • The essential character test; and

3 • The occasion of the expenditure test.

PoTL 2018 paragraph [12.50]

Nexus test – positive limbs of s 8-1: Judicial tests 1. Incidental and relevant test • A loss or outgoing is sufficiently connected to the production of

assessable income where: – “the expenditure … is incidental and relevant to the

operations or activities regularly carried on for the production of income”: W Nevill & Co Ltd v FCT (1937).

2. Essential character test • Courts have looked at the “essential character” of an expense:

– Home to work travel expenses: essential character was to put the taxpayer in a position to gain or produce assessable income, not the production of assessable income • See, Lunney v FCT; Hayley v FCT (1958).

PoTL 2018 paragraphs [12.50] – [12.60]

Nexus test – positive limbs of s 8-1: Judicial tests 3. Occasion of the expenditure test • Courts have considered whether the occasion of the

expenditure arises out of income-producing activities: FCT v Payne (2001) and FCT v Day (2008)

– Requires an assessment as to what is productive of the taxpayer’s assessable income.

PoTL 2018 paragraph [12.60]

Nexus test – positive limbs of s 8-1: Nexus sufficiently direct or too remote? • If the nexus between the expense and the production of

assessable income is too remote, it is not deductible • Some cases exist where it is questionable as to whether a

nexus can be established, for example:

1 • Expenses involving alleged or actual

wrongdoing by the taxpayer

2 • Expenses to reduce future expenses

3 • Involuntary losses or outgoings

PoTL 2018 paragraph [12.70]

Nexus test – positive limbs of s 8-1: Nexus sufficiently direct or too remote? 1. Expenses involving alleged or actual wrongdoing • Nexus satisfied for expenses arising from alleged or actual

wrongdoing incurred by: – Employees defending improper conduct charges which are

“quasi-personal”: FCT v Day (2008). – Business taxpayers in respect of defending claims (eg, for

libel actions) arising out of the ordinary course of business: Herald and Weekly Times v FCT (1932) and FCT v Snowden v Willson Pty Ltd (1958).

– Company directors incurring costs to defend criminal charges: Magna Alloys & Research Pty Ltd v FCT (1980).

– Expenses related to illegal business: FCT v La Rosa (2003).

PoTL 2018 paragraph [12.80]

Nexus test – positive limbs of s 8-1: Nexus sufficiently dire