2018-0787011E5 Spousal support - legal expenses & lump-sum awards

Principal Issues: Whether legal expenses incurred in prior years to obtain spousal support would cease to be deductible if the outcome of the support claim in a subsequent year awards a lump sum payment to the individual.

Position: No. The outcome of a support claim is irrelevant in determining the deductibility of related legal expenses claimed in prior years' tax returns.

Reasons: Legal expenses incurred to obtain spousal support are generally deductible in computing income as long as the support claim was bona fide (made in good faith) and not frivolous, with a reasonable chance of success (assuming there is a pre-existing right to support).

Author: El-Kadi, Randa
Section: 18(1)(a); 56.1(4)

XXXXXXXXXX                                                                     2018-078701      
                                                                                             Randa El-Kadi

July 25, 2019

Re:  Deductibility of legal fees incurred to obtain spousal support

Dear XXXXXXXXXX,

We are replying to your correspondence regarding the deductibility of legal fees incurred in prior years to obtain spousal support. In a hypothetical situation you sent us, an individual has deducted such fees in prior years’ tax returns; however, the outcome of the legal proceedings (the “support claim”) was only determined in a subsequent year. You ask whether the legal fees in this case would cease to be deductible if the outcome of the support claim awards a lump sum payment to the individual. To that effect, you ask whether adjustments to the prior years’ tax returns would be required to exclude the legal expenses previously deducted in computing the individual’s income.

You seem to base your question on the premise that a lump-sum amount is not a “support amount” within the meaning of subsection 56.1(4) of the Income Tax Act (the Act), and, therefore, legal fees relating to the collection of a lump-sum amount would not be deductible from income.

For the purposes of this letter, we are assuming that the individual in the hypothetical situation has a pre-existing right to spousal support, namely, by virtue of the Divorce Act (for married couples who have divorced or applied for a divorce) or a provincial family statute (for common-law partners – except in Quebec – and married couples who have separated without applying for a divorce). 

Our comments:

This technical interpretation provides general comments about the provisions of the Act and related legislation (where referenced). It does not confirm the income tax treatment of a particular situation involving a specific taxpayer but is intended to assist you in making that determination. The income tax treatment of particular transactions proposed by a specific taxpayer will only be confirmed by this Directorate in the context of an advance income tax ruling request submitted in the manner set out in Information Circular IC 70-6R9, Advance Income Tax Rulings and Technical Interpretations.

Income Tax Folio S1-F3-C3, Support Payments (the Folio), provides the Canada Revenue Agency’s views on the provisions of the Act that deal with support payments. One of the conditions for an amount to qualify as a support amount under subsection 56.1(4) of the Act is that it be payable as an allowance on a periodic basis for the maintenance of the recipient, children of the recipient or both. Although an amount paid as a single lump sum will generally not qualify as being payable on a periodic basis, there may be circumstances where such an amount paid in a tax year will be regarded as qualifying as a periodic payment. This may be the case, for example, where the lump-sum amount is paid pursuant to a court order that establishes a clear obligation to pay retroactive periodic maintenance for a specified period prior to the date of the court order (see paragraph 3.44 titled “Lump-sum payments” in the Folio).

It is well established by the courts that the right to support is “property” under the Act. (footnote 1)  In that sense, the deductibility of legal fees is permitted to the extent that these expenses are made or incurred for the purpose of gaining or producing income from a pre-existing right to support. Conversely, an expenditure, the purpose of which is to give rise to a right to support, is a capital expenditure that cannot be deducted. (footnote 2) 

Therefore, we are generally of the view that the outcome of a support claim would be irrelevant in determining the deductibility of legal fees incurred as part of such claim. What is relevant is the purpose of the individual at the time they started the support claim, and not an after-the-fact or retrospective determination based on the outcome of the support claim.

As such, an individual who starts a support claim to establish or collect support amounts (whether prospectively, retroactively, or both) would generally be able to deduct legal fees they incurred for that purpose. This would be the case as long as the support claim is bona fide and not frivolous, with a reasonable chance of success, and even if the claim for support is unsuccessful (see paragraph 3.83 of the Folio). Conversely, where an individual starts a support claim for the purpose of collecting a lump-sum payment that does not qualify as a support amount (see paragraph 3.79 of the Folio), the individual is not entitled to deduct legal and accounting fees incurred for that purpose.

Assuming that the support claim in the hypothetical situation you presented was started to establish or collect support amounts, as described above, we are of the view that no adjustments to the individual’s prior years’ tax returns would be warranted to exclude the legal expenses previously deducted in computing the individual’s income.

We trust our comments will be of assistance.

Yours truly,

Lita Krantz, CPA, CA
Manager
Tax Credits and Ministerial Issues
Business and Employment Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch

FOOTNOTES

Note to reader:  Because of our system requirements, the footnotes contained in the original document are shown below instead:

1  See paragraph [28] in Nadeau v MNR, 2003 FCA 400.
2  See paragraph [17] in Nadeau v MNR, 2003 FCA 400.

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