Are your legal fees deductible?
This is something a lot of business owners or individuals would not have come across, but it is important to be aware of.
The deductibility of legal expenses is determined the same way as other business expenses. That is, if they are necessarily incurred in earning your business income and are not capital, private or domestic in nature, then they should be deductible expenditure.
Generally, the ATO allows deductions for legal expenses incurred while earning assessable income, including wages, business income, interest or rental income.
Tax deductible legal fees are generally related to this assessable income, business operations or defending from legal proceedings that could affect assessable income.
Legal fees necessarily incurred in business operations are generally tax-deductible, as they are considered necessary expenses to maintain, operate, or expand a business. Some examples of these would be:
- Legal fees incurred to collect debts
- Defending lawsuits related to income production
- Drawing contracts related to income production
- Protecting intellectual property
- Negotiating current employment contracts (including disputes) regarding existing employment arrangements
- Defending a wrongful dismissal action bought by former employees or directors
- Defending a defamation action bought against a company board
- Recovering misappropriated funds of the business
- Evicting a rent-defaulting tenant
- Pursuing claims for workers compensation
There are also certain legal costs that are deductible under special provisions. Some of these include:
- Legal costs for preparing, registering, or stamping a lease are deductible, if the property is specifically used to generate income.
- Valuation expenses related to borrowing money for business purposes are also deductible. If the expense is under $100, it can be claimed immediately. Larger amounts can be typically spread over five years or the life of the loan.
- Legal expenses incurred while defending actions related to fines and penalties may be deductible, though the fines themselves are not.
Some legal fees incurred through business are not tax-deductible, such as:
- Fees associated with evicting tenants after their lease expires.
- The cost of negotiating employment contracts with a new employer
- Defending driving charges (regardless of whether the transgression occurred while driving on company business)
- Defending charges of sexual harassment or racial vilification that occurred in the workplace
- Eviction of a tenant whose term had expired
- Disputing redundancy payout or seeking to increase the amount of any redundancy payout.
Personal legal fees, such as those related to divorce proceedings, drafting wills, or personal injury claims, are not tax-deductible in Australia. For individual taxpayers, legal fees can only be considered deductible if they are directly linked to generating income. This generally includes:
- Defending employment claims (depending on whether it is considered on capital or income account)
- Managing disputes over rental properties (note, this is only in relation to properties where the individual taxpayer is receiving rent, not paying it)
- Acquiring or protecting income streams such as from investments or intellectual property
Some legal expenses, although typically not deductible due to being capital or private in nature, can be deducted under specific tax provisions, such as:
- Preparing an income tax return, disputing tax assessments, or obtaining professional tax advice
- Preparing lease documents
- Certain borrowing expenses and mortgage discharge fees
As you can see, this is a very complex area of the income tax legislation and if you are unsure whether your legal fees are deductible or not, please contact our office so we advise on your legal expenditure.
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