Taxation Ruling TR 2012/8
This ruling provides the commissioner’s views on whether amounts received in respect of legal costs incurred in disputes concerning termination of employment should be included in assessable income as an employment termination payment (ETP) under s 82-130 of the ITAA 1997, or as an assessable recoupment under s 20-20 (where the legal costs are deductible under s 8-1).
The ruling also considers the FBT consequences of legal costs incurred in a dispute but does not consider the GST and CGT consequences. It applies to both court-ordered awards of identified and particularised legal costs and the specified or identifiable amount in relation to professional legal costs included in a dissected settlement sum paid in respect of termination of employment.
The ATO view is that, where an amount is capable of being identified as relating to specific legal costs in relation to a dispute concerning a termination of employment, the amount is not an ETP, nor does it form a part of an ETP. Where a deduction for legal costs is available to the recipient under s 8-1, a settlement or award in respect of legal costs will be included in the assessable income of the recipient under Subdiv 20-A.
Where amounts of settlement or court award are received as a lump sum and the part relating to legal costs cannot be identified, the ATO says the whole amount is treated as being received in consequence of termination of employment. Taxation Ruling TR 2003/13 explains the commissioner’s view of ‘in consequence’ in relation to eligible termination payments under the ITAA 1936.
Ruling TR 2012/8 further explains that, although an award for legal costs may be paid in relation to litigation concerning the termination of employment, an award for legal costs is not paid ‘in consequence’ of termination of employment. According to the ATO, that is because the nexus between the underlying cause of action and the costs is broken, due to the following factors:
- legal costs are incurred after the cause of action arose
- at the time the costs are incurred, there is no right to recover those costs and there is no certainty as to the amount that might be recovered (costs can only be awarded at the discretion of the court)
- the costs do not form part of the damages for the underlying cause of action.
In relation to FBT consequences, the ATO says that a reimbursement of legal costs incurred in a dispute concerning the termination of employment will not have a sufficient or material connection to the former employment to fall within the meaning of a ‘fringe benefit’ under s 136(1) of the FBTAA.
