Question

Should deductions be capped to what are reasonable expenses rather than actual expenses? Can you think of an example of such a restriction under the ITAA97.

Answer 1

A general deduction is a loss or outgoing which is deductible under the general principles of deductibility. Broadly, this requires the loss or outgoing to have the relevant connection with assessable income or the carrying on of a business provided that it does not have a capital, private or domestic nature.

A specific deduction, on the other hand, is a loss or outgoing which is deductible under a specific provision of the Tax Acts other than section 8-1 of the ITAA 1997.

Where a loss or outgoing is deductible under two or more provisions of the Tax Acts, a taxpayer can only deduct the amount under the provision that is most appropriate. For example, a loss arising from a debt on the revenue account written off during the year of income (i.e. a bad debt) may qualify for deduction under the general deduction provision of section 8-1 as well as the specific deduction provision of section 25-35 of the ITAA 1997.

The general deduction provision of section 8-1 of the ITAA 1997 states that:

(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.

(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.

Accordingly, a taxpayer will be entitled to a general deduction under section 8-1 for a loss or outgoing if the loss or outgoing satisfies either one of the two positive limbs in subsection 8- 1(1) and none of the four negative limbs in subsection 8-1(2) apply.

An example of a case that appears to fall within the second positive limb, but not the first positive limb is Charles Moore & Co (WA) Pty Ltd v FCT (1956) 11 ATD 147 ("Charles Moore's Case").

In that case, a department store was allowed a deduction relating to the theft of the previous day’s takings, that occurred while an employee was taking the cash to the bank. The High Court found that the banking of each day’s takings was as essential to the conduct of the taxpayer’s business as the purchase of stock or the paying of employees and as such the losses suffered during that activity were losses necessarily incurred in carrying on the taxpayer's business (irrespective of whether or not the losses were themselves incurred in gaining or producing assessable income). The losses were therefore deductible. For completeness, section 25-45 of the ITAA 1997 now allows a deduction for certain losses by theft so these losses would be specific deductions rather than general deductions.