Module 11 - Deductions

Deductions are set out in Div 8 and are divided into 3 categories, what categories and relevant legislative section?

• General deductions (s 8-1); and

• Specific deductions (s 8-5).

• No double deductions (s 8-10)

S 8-1 (1) General deductions - Positive Limbs

(1) 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

Nexus/connection requirement

S 8-1(2) General deductions - Negative limbs

(2) However, you cannot deduct a loss or outgoing under this section to the extent that:

a) It is 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

Section 12-5

Summary list of provisions about deduction

Case Law “necessarily incurred” shows?

Clarity on the connection between the expense and the production of assessable income is determined in the context of the TPs overall activities

• Charles Moore & Co (WA) Pty Ltd v FCT (1956) 95 CLR 344

• W Nevill & Co Ltd v FCT (1937) 56 CLR 290

Charles Moore & Co (WA) Pty Ltd v FCT (1956) 95 CLR 344

TP was a retail company, the normal operations of which included an employee taking the day’s earnings to the bank daily. An employee was robbed while on the way to the bank. TP’s claim for a deduction for the loss was denied by the Commissioner, who argued that the loss was not sufficiently connected to the production of assessable income by the TP.

Full High Court concluded that the loss was deductible. Full High Court stated that “in gaining or producing assessable income” should be interpreted as “in the course of gaining or producing assessable income”. In this case, the TP’s normal business operations included banking the daily earnings and, as the loss had been incurred as part of that normal business operation, the loss was incurred in the production of assessable income and satisfied the positive limbs of the predecessor to s 8-1.

W Nevill & Co Ltd v FCT (1937) 56 CLR 290

“Necesasarily incurred” - deductible

Deducibility of expenses incurred in improving business efficiency to reduce future expenditure. Such expenses increase taxable income by reducing deductions and not assessable income as required by s8-1.

TP was a company that had 2 managing directors. The joint management system was not working and the contract of one of the managing directors was terminated and a compensation payment made. Among other things, Commissioner argued that the compensation payment was not deductible as it was not incurred in gaining or producing assessable income. TP argued that the amount was deductible as it was saving on future salary costs, which would have been deductible, and that terminating the managing director would improve the efficiency of the business, which would increase assessable income.

Full High Court found that the payment satisfied the positive limbs of the predecessor to s 8-1 and was therefore deductible. The Court notes that no expense directly increases a taxpayer’s assessable income and therefore an overall approach is appropriate. Court held that the compensation payment must be viewed in context with the original agreement with the managing director, which was clearly entered into in the production of assessable income. The compensation payment, which resulted from an amendment to the original agreement, was therefore also for the purpose of producing assessable income.

Full High Court held that an expense that improves the taxpayer’s business overall and reduces future expenses, although not directly incurred in gaining or producing assessable income, is not too remote.

Cases that examined whether the positive limbs were satisfied in the context of business misconduct:

• Herald and Weekly Times v FCT (1923) 48 CLR 113

• FCT v Snowden & Willson (1958) 99 CLR 431

• FCT v La Rosa (2003) 53 ATR 1 but note s 26-54

Herald and Weekly Times v FCT (1923) 48 CLR 113

TP was a newspaper publisher that incurred expenses for damages with respect to libel claims made against it.

The majority of the High Court accepted that the libel or alleged libel was published with the sole purpose of selling newspapers. Therefore, the liability for damages was incurred because of the publishing of the newspaper, which was “the thing which produced assessable income”. The Court notes that the potential for libel claims was a regular and almost unavoidable incident of publishing, which meant that there was sufficient connection between the cause of the expense and the taxpayer’s business.

FCT v Snowden & Willson (1958) 99 CLR 431

TP was a building company that was the subject of complaints and investigations which were public knowledge. TP incurred expenses on advertising and legal fees in defending its reputation.

TP deducted these expenses on the basis that they were ordinary business expenses, while the Commissioner denied the deductions on the basis that the expenses were not necessarily incurred by the taxpayer in the carrying on of its business.

Full High Court found that an expense is necessarily incurred where the expenditure is dictated by business purposes. Here, the expenses were incurred in defending the taxpayer’s reputation and in enabling the continued operation of the business to gain or produce assessable income, which was clearly a legitimate business purpose. In reaching its conclusion, the Court appears to suggest that allegations of wrongdoing are an ordinary incident of business and expenses incurred in defending the taxpayer against such allegations of wrongdoing are an ordinary incident of business and expenses incurred in defending the TP against such allegations are necessary for the continued operation of the business and therefore appropriate (and deductible). The TP’s guilt or innocence in relation to the allegations is irrelevant.

FCT v La Rosa (2003) 53 ATR 1 but note s 26-54

Expenses related to illegal business - deductible

TP was a convicted drug dealer who was robbed of cash during an intended drug purchase. Commissioner assessed the TP on the income from drug dealing. TP claimed a deduction for the loss incurred in the robbery per Charles Moore & Co v FCT. Commissioner argued that the TP should be denied a deduction for the loss on public policy grounds.

Full Federal Court confirmed that proceeds from an illegal business or activity may be assessable and corresponding expenses or losses deductible. The Court did not accept the Commissioner’s public policy argument for denying the deductions as there was no legal basis for doing so. The loss was deducible as it was necessarily incurred in carrying on the TPs business to gain or produce assessable income.

Gov. responded by introducing s 26-54.

S 26-54 Expenditure relating to illegal activities

1. You cannot deduct under this Act a loss or outgoing to the extent that it was incurred in the furtherance of, or directly in relation to, a physical element of an offence against an Australian law of which you have been convicted if the offence was, or could have been, prosecuted on indictment.

2. Despite section 170 1936, Commissioner may amend your assessment at any time within 4 years after you are convicted of the relevant offence for the purpose of giving effect subsection (1) of this section.

Following cases examined whether the positive limbs were satisfied in the context of personal misconduct:

• Magna Alloys & Research Pty Ltd v FCT (1980) 11 ATR 276

• FCT v Day (2008) 70ATR 14

Magna Alloys & Research Pty Ltd v FCT (1980) 11 ATR 276

TP incurred legal expenses in defending itself and its directors in criminal proceedings. TP was accused of paying illegal secret commissions to boost sales of its products. Legal expenses mainly related to the directors’ defence. Commissioner denied the deduction on the basis that the legal expenses were primarily for the directors personal benefit.

Full FC found that the legal expenses were necessarily incurred in carrying on a business to produce assessable income. Court noted that “necessary” does not mean that the expense is unavoidable or essential. Court stated that “it is no part of the function of the Act or of those who administer it to dictate to TPs in what business they shall engage or how to run their business profitably or economically”.

Court concluded that the expenses were deductible as the TP was inextricably involved in the proceedings and its reputation and interest were tied to the directors. Court articulated what is known as the “business judgement rule” - an expense will be necessarily incurred in carrying on a business to gain or produce assessable income where the persons who run the business consider the expense desirable and appropriate in achieving business ends.

FCT v Day (2008) 70ATR 14

Legal expenses incurred in defending improper conduct charges - deductible

TP was a customs officer who was charged with failing to fulfil his duties as an officer. TP incurred legal expenses in defending the charges, which involved a variety of allegations, including improper use of his position, assisting with an improper diesel fuel rebate claim, improper use of a work vehicle and improper attempts to conceal his absences from work. TP successfully defended himself against some of these charges, but not others.

Commissioner denied the TPs deduction for the legal expenses on the basis that the expenses related to conduct unconnected to the performance of the TPs income-producing activities and, therefore, the connection requirement in s 8-1 was not satisfied as the expenses were not “incurred in gaining or producing…assessable income”.

Full HC found that the legal expenses were incurred by the TP in gaining or producing assessable income as the occasion of the expenditure arose out of his income-producing activities. TP was subject to specific law due to his job as customs officer and the legal expenses related to defending himself against charges under that Act. The court distinguished the legal expenses in this case to expenses which may be incurred by a TP in general civil or criminal proceedings. The Key factor here was that it was the TPs employment that exposed him to the charges that resulted in the legal expenses being incurred.

Temporal nexus

A time-based connection or proximity required between two events—such as a protected action and an adverse consequence, or a criminal act and a physical item. It proves that things happened close enough in time to be legally related.

Cases have also considered whether the expense needs to be incurred in the same income year as the relevant assessable income.

Steele v DCT (1999) 41 ATR 139

In a services context where the expenses are incurred before the earning of assessable income, very often the courts will say the expenses are incurred to “put the TP into a position to earn assessable income”, they are not incurred in “earning assessable income”, thus positive limbs are NOT satisfied.

In business context, if you have expenses and no income yet, courts will likely say business has not started yet. 

Therefore, the principle - that expenses can be deductible if it relates to income for future years - is most relevant for income from property.

Placer Pacific Management Pty LTd v FCT (1995) 31 ATR 253

Steele v DCT (1999) 41 ATR 139

Expenses related to income gained or produced in the future income year.

TP obtained a loan to purchase property for use in a business venture. For various reasons, the venture did not proceed and the TP did not gain or produce assessable income in relation to the property. 

TP deducted the interest expenses incurred on the loan to purchase the property on the basis that the expenses were incurred to gain or produce future assessable income. The Commissioner denied the TP claim on the basis that there was no connection between the interest expenses and the production of assessable income.

Full HC held that such expenses would be deductible if the taxpayer could demonstrate that the expenses were incurred in order to gain or produce assessable income. The factual question was remitted back to the Administrative Appeals Tribunal, which found that the evidence showed that the TP had no other purpose in incurring the interest expense other than for the production of assessable income. The expenses were thus deductible under the predecessor to s 8-1.

It doesn’t matter that the assessable income will be earned in the future, it is still deductible.

In Steele (1999), the Court held that expenses may be deductible even if they relate to assessable income in a future income year. However, as we will see when we look at some commonly incurred expenses, in the context of income from services, the courts often find that expenses related to future assessable income are incurred to put the taxpayer in a position to earn assessable income rather than being incurred in earning assessable income. In the context of income from business, the expenses may not be deductible because they are incurred prior to the commencement of the business. Therefore, this rule is mainly of relevance to income from property.

Placer Pacific Management Pty LTd v FCT (1995) 31 ATR 253

Expenses related to the production of assessable income in prior years

TP incurred expenses in satisfying obligations arising out of its previous business of manufacturing conveyor belts. At the time of incurring expenses, the taxpayer was only involved with the investment and management of related companies. The TP sought a deduction for the expenses on the basis that they were incurred in producing assessable income. Commissioner argued that the nexus between the taxpayer’s income producing activities and the expense was broken by the fact that the TP had ceased carrying on the business of manufacturing conveyor belts.

Full FC allowed the TP a deduction for the expenses on the basis that they arose out of or were caused by the TPs past activities of manufacturing conveyor belts, from which it produced assessable income. The fact that the business had since ceased was therefore irrelevant. 

The court held that expenses may be deductible if they relate to assessable income in a prior income year if the expense was caused by the prior income-earning activities.

Negative Limbs - s 8-1(2) (4 Negative Limbs)

Once it is determined that an expense satisfies the positive limbs of s8-1, it is necessary to determine that it does not satisfy any of the negative limbs. If the expense satisfies any of the negative limbs, it is not deductible under s 8-1.

• Capital or capital in nature

• Private or domestic expenses

• Incurred in relation to gaining/producing your exempt income or your NANE

• the provision of this Act prevents you from deducting it

Capital or capital in nature (2)(a)

(a) It is a loss or outgoing of capital, or of capital nature

Capital or capital in nature (2)(a) - CASE LAW

• British Insulated and Helsby Cables Ltd v Atherton (1926) AC 205 at 213-4 - Enduring benefit test

• Sun Newspapers Ltd and Associated Newspapers Ltd v FCT (1938) 61 CLR 337 - 3 tests

• National Australia Bank Ltd v FCT (1997) 37 ATR 378 and FCT v Star City Pty Ltd (2009) 72 ATR 431 - substance over form approach

British Insulated and Helsby Cables Ltd v Atherton (1926) AC 205 at 213-4

Stated that “where an expenditure is made, not only once and for all, but with a view to bringing into existence an asset or an advantage for the enduring benefit of a trade..there is very good reason..for treating such an expenditure as properly attributable not to revenue but to capital.”

Sun Newspapers Ltd and Associated Newspapers Ltd v FCT (1938) 61 CLR 337 - What are the 3 tests?

1. Character of advantage sought;

• Does the expense give you a lasting (capital) benefit or temporary benefit?

2. Manner in which it is to be used or enjoyed; and

• Does the expense give a single enduring benefit (capital) or does it give a recurrent short-term benefit (revenue)?

3. Means adopted to obtain it (less relevant these days)

• How did you pay for the expense - if lump sum more likely to be capital

The court also stated that the distinction depended on the acquisition of the means of production (capital) vs the use of those means of production (revenue expense).

Sun Newspapers Ltd and Associated Newspapers Ltd v FCT (1938) 61 CLR 337

Sets out the distinction between expenses related to business processes (revenue expenses) and expenses related to business structure (capital expenses).

TP was a newspaper publisher. TPs principal competitor was the World published by Sydney Newspapers Ltd. Sydney Newspapers proposed to introduce a rival paper, the Star, which would sell for two-thirds of the price of the Sun, published by the TP. TP made a payment to Sydney Newspapers for the right to use its plant and equipment for a period of three years and for an agreement that it would not establish a new newspaper, the Star, for the same period.

TP immediately ceased publication of the World once it took over the plant and equipment. In effect, the payment resulted in Sun Newspapers shutting down an existing rival newspaper (world) and preventing the publication of a new rival (the Star) for a period of 3 years.

TP tried to claim a deduction for the payment over a period of 3 years, but there was no provision in the income tax legislation which would allow it to do so. TP then claimed an immediate deduction for the payment on the basis that the expenses would safeguard and increase the TPs revenue (assessable income). The Commissioner argued that as the payment resulted in an addition to the goodwill of the business, benefited the business as a whole and was a monopoly for a capital asset, the payment was therefore capital in nature. 

The majority of the HC concluded that the payment was a non-deductible capital expense as the TP had acquired a non-wasting capital benefit (enduring) by effectively shutting down its competitor. Dixon J reached the same conclusion by distinguishing between expenses related to the TPs income-producing process and expenses related to the TPs income-producing structure. The payment strengthened or preserved the TPs business structure and, as such, was capital in nature.

Enduring does not have to be forever. Has to be a lasting benefit. Shutting down the rival added to the structure of their business.

National Australia Bank Ltd v FCT (1997) 37 ATR 378

Lump-sum payment not capital in nature

TP made a large lump-sum payment to the Gov. to become the exclusive lender under a Commonwealth home loan scheme for members of the defence force for a period of 15 years. TP deducted a payment on the basis that it was akin to a marketing expense or minimum royalty payment. The commissioner argued that the payment was a capital expense as it provided the TP with an enduring benefit.

Full FC concluded that the lump-sum payment was a deductible revenue expense. In applying Dixon J’s factors, the Court held that the character of the advantage sought was the expansion of its customer base and the potential increase in its income from loan activities. Importantly, the payment did not create a monopoly or add to the structure of the Tps business as defence force members were not required to obtain their home loan from the TP and could go to other banks.

FCT v Star City Pty Ltd (2009) 72 ATR 431

Payment capital in nature based on substance

TP had an exclusive licence to operate a casino in Sydney. Under the terms of its agreement with the NSW Government, the TP was granted a 99-year lease over the land where the casino was located and a 12-year exclusive licence to operate the casino.

TP was required to make an upfront payment for the licence plus a payment of $120 million, which was described as prepaid “rent” for the first 12 years of land rental. 

Full FC examined the background documentation, which clearly indicated that the value of the rent was related to the benefits that would be enjoyed by the TP in operating the casino under an exclusive licence and held that the “rent” was a capital expense. The High Court refused the TP special leave to appeal.

• Was not prepaid rent was rather exclusive right

Private or Domestic Expenses (2)(b)

(b) It is a loss or outgoing of a private or domestic nature;

• Day-to-day living expenses

Expenses which are incurred in earning exempt income or non-assessable non-exempt income are not deductible under s 8-1. Again, such expenses are unlikely to satisfy the positive limbs but to be clear, they are also excluded under the third negative limb.

Private or Domestic Expenses (2)(b) - Case Law

• FCT v Cooper (1991) 21 ATR 1616

• FCT v Day (2008) 70 ATR 14

• FCT v Hall (2026) FCAFC 43

FCT v Cooper (1991) 21 ATR 1616

TP was a professional rugby player who received instructions from his coach requiring him to eat more meat and potatoes and drink more beer, in addition to his normal meals to improve his fitness for the following season.

TP sought a deduction for the additional food and alcohol costs on the basis that the expenses were incurred in gaining or producing his assessable income.

Full FC found that expenses were incurred in putting the TP in a position to carry out his income-producing activities, rather than being incurred in the carrying on of those activities. 

Therefore, the expenses did not satisfy the positive limbs of the predecessor to s 8-1 and were specifically excluded from being deductible as they were private or domestic in nature. The fact that the TP was instructed by his coach to consume the additional food and drink, and therefore incur the additional expenditure, did not change the character of the expenditure, which was for food and drink to sustain life.

FCT v Day (2008) 70 ATR 14

The commissioner also argued that the legal expenses were not deductible as they were a private or domestic expense.

HC found that the legal expenses were not private or domestic in nature. Crucial to the TPs success on this issue were the facts that the TP was exposed to the action because of his employment and the charges were brought against him by his employer.

FCT v Hall (2026) FCAFC 43

FC confirmed that you could have an expense that is incurred in producing your assessable income but is still not deductible as it is a private/domestic expense. Check home office expense notes.

Incurred in relation to gaining/producing your exempt income or your NANE(2)(C)

(c) it is incurred in relation to gaining or producing your exempt income or your non-assessable non-exempt income; or

Denied deductions (2)(d)

(d) a provision of this Act prevents you from deducting it.

Some common denied deductions are:

• Penalties (s 26-5)

• Rebatable benefits (s 26-19)

• Assistance to students (s 26-20)

• Political donations (s 26-22) (but note ss 30-242) and 30-243)

• Relative’s travel expenses (s 26-30)

• Travel related to residential premises (s 26-31)

• Payments to related entities (s 26-35)

• Maintaining your family (s 26-40)

• Recreational club expenses (s 26-45)

• Bribes to public officials (ss 26-52 and 26-53)

• Expenditure relating to illegal activities (s 26-54)

• Limits on certain deductions (e.g. donations) (s 26-55)

• Non-compliance payments (s 26-105)

• Negatively geared residential investment properties (s 26-155)

• Entertainment expenses (Div 32) (s 32-10, definition of entertainment)

• Reimbursed expenditure (s 51AH)

Limit on Deductions s 26-55

(1) There is a limit on the total of the amounts you can deduct for the income year under these provisions:

(a) s 25-50 (payments of pensions, gratuities or retiring allowances) of this Act;

(ba) Division 30 (which is about deductions for gifts or contributions) of this Act;

(bb) Division 31 (which is about deductions for conservation covenants) of this Act;

(d) section 290-150 (which is about deductions for personal superannuation contributions)

Do not include in the total an amount that you can also deduct under another provision of this Act, apart from s 8-10 (which prevents double deductions)

(2) The limit is worked out by subtracting from your assessable income all your deductions except:

s 26-105 Non-compliance payments for work and services

No deduction if amount not withheld or Commissioner not notified

(1) You cannot deduct under this Act a payment if:

(a) any of the following provisions in Schedule 1 to the Taxation Administration Act 1953 require you to withhold an amount from the payment:

(i) s 12-35 (payments to employees)

(ii) s 12-40 (payments to directors)

(iii) s 12-47 (about payments to religious practitioners)

(iv) s 12-60 (about payments under labour hire and certain other arrangements)

(v) in relation to a supply, other than a supply referred to in subsection (3) of this section - s 12-190 (about quoting of ABN); and

(b) either

(i) you fail to withhold and amount (whether or not that amount is the amount required to be withheld as mentioned in paragraph (a)) from the payment; or

(ii) after withholding the amount from the payment, you fail to comply, or purportedly comply, with s 16-150 or 389-5 (as the case requires) in that Schedule, in relation to the amount

s 26-155 Using or holding residential dwellings

General

(1) If the amounts relating to the using or holding of residential dwellings as residential accommodation that you could otherwise deduct for an income year exceed your assessable income from using or holding residential dwellings as residential accommodation for the income year, this Act applies to the amount of the excess as follows:

(a) it is not deductible for that income year

(b) it is an amount (a quarantined amount) that could be applied in accordance with the method statement in s 102-5 (about working out your net capital gain) for that income year;

(C) to the extent any part of it remains after applying that method statement - it is treated as an amount relating to using or holding residential dwellings as residential accommodation for the next income year

s 32-5 No deduction for entertainment expenses

You cannot deduct under s 8-1 however there are exceptions, set out in subdivision 32-B

s 32-10 meaning of entertainment

1. Entertainment means:

a) Entertainment by way of food, drink or recreation; or

b) Accommodation or travel to do with providing entertainment by way of food, drink or recreation

2. You are taken to provide entertainment even if business discussions or transactions occur.

Reimbursed Expenditure

s 51AH 1936 - deductions not allowable where expenses incurred by employee are reimbursed

s 20-20 - Assessable recoupments

Quantum of deduction case law

• Tooheys Ltd v Commissioner of Taxation for NSW (1922) 22 SR (NSW) 432 at 440-1

• Tweedle v FCT (1942) 7 ATD 186

Tooheys Ltd v Commissioner of Taxation for NSW (1922) 22 SR (NSW) 432 at 440-1

The Court stated:

"A taxpayer is liable to be taxed on the income he has made, not on what he might have made. It is nothing to the point that if he had been more capable, more experienced or more prudent, he might have cut down his expenses. The question is what he did in fact spend on his business. If he chooses to employ a hundred men where twenty would have been ample, that is his own affair."

Tweedle v FCT (1942) 7 ATD 186

“It is not suggested that it is the function of income tax Acts or those who administer them to dictate to taxpayers in what business they shall engage or how to run their business profitably or economically. The Act must operate  upon the results of a TPs activities as it finds them. If a TP is in fact engaged in two businesses, one profitable and the other showing a loss, the Commissioner is not entitled to say he must close down the unprofitable business and cut his losses even if it might be better in his own interest and although it certainly would be better in the interests of the Commissioner if he did so.”

S 8-5 - Specific Deductions

1. You can also deduct from your assessable income an amount that a provision of this Act (outside this Division) allows you to deduct.

2. Some provisions of this Act prevent you from deducting an amount that you could otherwise deduct, or limit the amount you can deduct.

3. An amount that you can deduct under a provision of this Act (outside this Division) is called a specific deduction.

Types of specific deductions

Tax-related expenses, repairs, bad debts, payments to associations, travel between workplaces

S 25-5 Tax-related Expenses

Taxpayers can deduct the cost of managing their tax affairs. (registered tax agent)

S 25-10 Repairs

Repairs to assets used for an income-producing purpose are deductible.

1. You can deduct expenditure you incur for repairs to premises (or part of premises) or a depreciating asset that you held or used solely for the purpose of producing assessable income

Property held or used partly for that purpose

2. If you held or used the property only partly for that purpose, you can deduct so much of the expenditure as is reasonable in the circumstances

No deduction for capital expenditure

1. You cannot deduct capital expenditure under this section

Lurcott v Wakely and Wheeler [1911] 1 KB 905 Repair → Remedying a defect in a property

“A skylight leaks; repair is effected by hacking out the putties, putting in new ones, and renewing the paint. A roof falls out of repair; the necessary work is to replace the decayed timbers by sound wood; to substitute sound tiles or slates for those which are cracked, broken, or missing; to make good the flashings, and the like. Part of a garden wall tumbles down; repair is effected by building it up again with new mortar, and, so far as necessary, new bricks or stone.”

Case J47 (1958) 9 TBRD 244 → Pure maintenance work ≠ repair

Property must be in need of restoration for the work to constitute a “repair”

Repairs that constitute capital expenditure are not deductible under s 25-10. The Courts have identified 3 categories of capital repairs.

Initial repairs - not deductible

• Repairs to remedy defects existing at the time the property is acquired: W Thomas (1965)

W Thomas & Co Pty Ltd (1965) 115 CLR 58 - Repairs to remedy defects existing at the time the property is acquired

Improvements

• Repairs that constitute an improvement. “Repair involves restoration of a thing to a condition it formerly had without changing its character.”: W Thomas (1965). See also Western Suburbs (CS 13.1).

FCT v Western Suburbs Cinema (1952) 86 CLR 102

• TP had a cinema and had to fix roof of their cinemas

• Existing materials were not available, so they fixed the roof using newer, better material

• Court said that the expense was not deductible as a repair, because by using the newer, better material it was an improvement

Replacements

• The replacement of part of an asset will constitute a ‘repair’ but the replacement of a whole asset will constitute a capital expense: Lindsay (1960).

• In TR 97/23, the FCT suggests that a ‘part’ will be an asset in itself if it is separately identifiable and capable of independent use.

Notional repairs

Finally, the courts have noted that the TP is not entitled to a deduction for ‘notional repairs’ (i.e. what the TP would have incurred if they had repaired the asset rather than improved or replaced it). 

• What you might of incurred if you didn't improve something and you just repaired it

Western Suburbs (CS 13.1).

• Tried to claim a deduction for what it would of cost them if they didn’t use the newer or better material to improve the proof

• Court said no, look at what they actually did

S 25-35 Bad Debts

1. You can deduct a debt (or part of a debt) that you write off as bad in the income year if:

a) It was included in your assessable income for the income year or for an earlier income year; or

b) It is in respect of money that you lent in the ordinary course of your business of lending money

For the bad debt to be deductible

• There must be an existing debt, 

• The debt must be bad

• Debt must be actually written-off:

Point v FCT (1970) 119 CLR 453 (CS 13.3)

• Needs to happen in same income year

TP entered into an agreement to release a debtor from its obligations to the TP in one income year and the debt was written off in the TPs accounts in the following income year.

HC found that the TP was not entitled to a bad debt deduction under the former equivalent provision of s 25-35 in either income year.

• In the first year, the TP was not entitled to a deduction as the debt had not actually been written off, while a deduction was not available in the following year, as there was no debt in existence at that time. The debtor has been released from its obligations in the previous income year

S25-55 Payments to Associations

1. You can deduct a payment you make for membership of a trade, business or professional association

Note: Alternatively, you can deduct the expense under s 8-1 if you satisfy the requirements

2. However, $42 is the maximum amount you can deduct under this section for the payments that you make in the income year to any one association

3. If you deduct a payment under s 8-1 instead of this section:

1. The payment does not count towards the $42 limit; and

2. The amount that you can deduct for the payment is not limited to $42

Travel Between Workplaces (unrelated)

S 25-100, even where the workplaces do not relate to the same income-earning activity. This section was introduced in response to Payne (2001)(CS 12.28). However, the travel expense is not deductible under this section if one of those workplaces is also the taxpayer’s residence. 

When a deduction is allowed

1. If you are an individual, you can deduct a transport expense to the extent that it is incurred in your travel between workplaces.

2. Your travel between workplaces is travel directly between 2 places, to the extent that:

1. While you were at the first place, you were: 

(i) engaged in activities to gain or produce your assessable income; or

(ii) engaged in activities in the course of carrying on a business for the purpose of gaining or producing your assessable income; and

2. The purpose of your travel to the second place was to:

(i) engage in activities to gain or produce your assessable income; or

(ii) engage in activities in the course of carrying on a business for the purpose of gaining or producing your assessable income;

And you engaged in those activities while you were at the second place.

      (3) Travel between 2 places is not travel between workplaces if one of the places you are travelling between is a place at which you reside

FCT v Payne (2001) 202 CLR 93

• TP was a Qantas pilot who also owned a deer-farming property

• TP sought a deduction for expenses incurred in travelling between the airport and the deer-farming property

• The Court held that expenses on travel between two unrelated workplaces (i.e. two different income-earning activities) were not deductible as the positive limbs of s8-1 were not satisfied. 

• When travelling between the two workplaces, the taxpayer was travelling to put themselves in a position to earn assessable income rather than in earning assessable income.

In response, the Government introduced s 25-100 to provide a specific deduction for such expenses.

Standard deduction: s 25-130

1. You can deduct the amount provided by subsection (2) for an income year if:

a) You are an individual; and

b) You are an Australian resident at any time during the income year; and

c) You derive assessable labour income in the income year

(2) The amount is the lesser of:

a) $1,000; and

b) The total amount of your assessable labour income for the income year; reduced, but not below zero, by the sum of the following amounts (if any):

S 25-130, Australian resident taxpayers with income from services can claim a standard deduction of $1,000 without substantiation. Taxpayers with work-related expenses in excess of $1,000 can continue to claim a deduction for those expenses under the general rules but will have to substantiate the whole amount (not just the amount in excess of $1,000).

Division 30 - Gifts/Donations

First, gifts or donations will be deductible under Subdivision 30-BA if made to a ‘deductible gift recipient’. Organisations that are involved in activities such as:

• education, welfare, arts science, research, and the environment can apply to be registered as a ‘deductible gift recipient.’ 

A gift or donation is a voluntary transfer with no material advantage received by the giver: McPhail (1968)(CS 13.4); TR 2005/13. 

FCT v McPhail (1968) 117 CLR 111

• TP made a donation to the building fund of the child’s school and in return the TP paid lower school fees

• Found to not be a gift/donation because the TP has received a material advantage in return being the lower school fees

The gift or donation can be money or property.

Restrictions in s 26-55 and s 78 ITAA36 regarding deductions for gifts or donations.

• Under s 26-55 a deduction for a gift or donations cannot create a tax loss (i.e. a deduction is available to reduce the taxpayer’s taxable income to nil but no more). 

• S 78 ITAA36 addresses situations where there isn’t a true gift/donation (e.g. the TP donates property but retains the right to use it).

• Token items are fine

• Political contributions and gifts are deductible under s 30-242 but only if the taxpayer is an individual and the gift or donation is not made in the course of carrying on a business. 

• The amount of the deduction is limited to $1,500 under s 30-243.

Tax Losses: Div 36 - Prior Year Tax Losses

The amount of a tax loss is determined as follows (s 36-10).

s 36-10 How to calculate a tax loss for an income year

1. Add up the amounts you can deduct for an income year (except tax losses for earlier income years)

2. Subtract your total assessable income

3. If you derived exempt income, also subtract your net exempt income (worked out under section 36-20)

4. Any amount remaining is your tax loss for the income year, which is called a loss year

36-15 How to deduct tax losses of entities other than corporate tax entities (individuals)

1. Your tax loss for a loss year is deducted in a later income year as follows if you are not a corporate tax entity at any time during the later income year

If you have no exempt income

2. If your total assessable income for the later income year exceeds your total deductions (other than tax losses), you deduct the tax loss from that excess.

If you have exempt income

You must use your prior year losses against your exempt income first before you can use it against your assessable income.

36-17 How to deduct tax losses of corporate tax entities (companies)

1. A tax loss of an entity for a loss year is deducted in a later income year as follows if the entity is a corporate tax entity at any time during the later income year

If the entity has no net exempt income - up to them

2. If the entity’s total assessable income for the later income year exceeds the entity’s total deductions (except tax losses), the entity is to deduct from that excess so much of the tax loss as the entity chooses. The entity may choose a nil amount.

If the entity has net exempt income

3. Must use as much against net exempt income first

Company may want to pay tax so they can generate franking credits

Why is it important to distinguish between exempt income and non-assessable non-exempt income?

Entities other than companies	Companies
Must deduct as much of their prior year tax loss as they can to reduce their taxable income in the current year. However, if the taxpayer has current year exempt income, the tax loss must be applied against the exempt income first, before being applied to the TP’s assessable income (s 36-15)	Can choose how much of their prior year tax loss they wish to use to reduce their taxable income in the current year. However, if the company has current year exempt income, the tax loss must be applied against the exempt income first, before the company makes the choice regarding the application to the TP’s assessable income (s 36-17).

Capital expenses

Deduct expenses over a number of years

• Depreciating assets: Div 40

• Buildings: Div 43

Add to project pool

Add to cost base of CGT asset

Deduct expenses over 5 years: s 40-880

• Blackhole expenditure —> residual taxing provision

Capital Allowances (div 40)

Depreciating Assets

If the expense relates to a depreciating asset, the taxpayer may be able to deduct the expense over a number of years under Division 40.

Buildings

If the expense relates to capital works on buildings, the taxpayer may be able to deduct the expense over a number of years under Division 43.

Project Pool

If the expense relates to a project, the taxpayer may be able to add the expense to a project pool and claim a deduction for the expenses over the life of the project under ss 40-830 and 40-832.

CGT Asset

If the expense relates to a CGT Asset, the taxpayer may be able to add the expense to the cost base of the CGT Asset.

Blackhole expenditure

For expenses that are not taken into account in any of the ways mentioned above and are not a denied deduction, the taxpayer may be able to deduct the expenditure over 5 years under s 40-880. An immediate deduction is available for certain start-up expenses of small businesses.

Under s 40-25, taxpayers are allowed a deduction for the decline in value of a depreciating asset held during the income year.

Depreciating Assets - Decline in value

• Broadly = cost/effective life of asset

• Prime cost method: s 40-75 (straight-line, equal deductions, better for constant assets)

• Diminishing value method: ss 40-70; 40-72 (reducing balance method, better for assets that are better at earlier life of asset then decrease)

Depreciating asset: s 40-30

• Anything that declines in value over time except land (expected to appreciate) and excludes buildings as div 43 does that

Holder

Legal/economic (who bears the risk) owner: s 40-40