ATO Interpretative Decision

ATO ID 2004/944

Income tax

• This document incorporates revisions made since original publication. View its history and amending notices, if applicable.

Issue

Is an amount received by the taxpayer as compensation for pain, suffering and medical expenses as a result of personal wrong, injury or illness assessable under section 6-5 or section 102-5 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Decision

No. An amount received by the taxpayer, as compensation for pain, suffering and medical expenses as a result of personal wrong, injury or illness is not assessable under section 6-5 or section 102-5 of the ITAA 1997.

Facts

The taxpayer received a lump sum payment for a personal injury which was not related to the taxpayer's employment.

The payment was to cover the taxpayer's pain, suffering and the costs of medical treatment.

Reasons for Decision

Section 6-5 of the ITAA 1997 provides that the assessable income of a taxpayer includes income according to ordinary concepts (ordinary income).

Ordinary income has generally been held to include 3 categories, namely, income from rendering personal services, income from property and income from carrying on a business.

Other characteristics of income that have evolved from case law include receipts that:

•

are earned

•

are expected

•

are relied upon, and

•

have an element of periodicity, recurrence or regularity.

The lump sum the taxpayer received was not earned by the taxpayer as it does not relate to services performed. The payment is also a one off payment and thus it does not have an element of recurrence or regularity. Although the payment can be said to be expected, and perhaps relied upon, this expectation arises from the pain, suffering and medical treatment required resulting from the injury, rather than from a relationship to personal services performed.

Compensation receipts which substitute for income have been held by the courts to be income under ordinary concepts. However no component of the amount received was received to compensate for loss of income.

Medical expenses are private expenditure of the taxpayer. Therefore, reimbursement of this amount does not give rise to assessable income.

Accordingly, the lump sum payment is not ordinary income and is therefore not assessable under section 6-5 of the ITAA 1997.

Section 6-10 of the ITAA 1997 provides that a taxpayer's assessable income includes statutory income amounts that are not ordinary income but are included in assessable income by another provision.

Section 10-5 of the ITAA 1997 lists those provisions. Included in this list are section 15-30 of the ITAA 1997 which deals with insurance recoveries and section 102-5 of the ITAA 1997 which deals with capital gains.

Section 15-30 of the ITAA 1997 operates to include in a taxpayer's assessable income any amount received by way of insurance or indemnity for the loss of an amount if the lost amount would have been included in the taxpayer's assessable income but was not assessable under section 6-5 of the ITAA 1997.

The compensation amount paid to the taxpayer would not have been included in the taxpayer's assessable income and therefore section 15-30 of the ITAA 1997 will have no application.

Amounts received in respect of personal injury which is not for reimbursement of medical expenses, or direct compensation for loss of income will usually be capital in nature and are potentially taxable as statutory income under the capital gains tax provisions of the ITAA 1997.

Taxation Ruling TR 95/35 deals with the capital gains treatment of compensation receipts. The ruling advocates a 'look-through' approach, which identifies the most relevant asset to which the compensation amount is most directly related. Paragraph 11 of TR 95/35 states that if an amount is not received in respect of an underlying asset, the amount relates to the disposal by the taxpayer of the right to seek compensation.

As the amount received by the taxpayer is not in respect of any underlying asset, the whole of the settlement amount is treated as capital proceeds from a capital gains tax (CGT) event (CGT event C2) happening to the taxpayer's right to seek compensation.

However, paragraph 118-37(1)(b) of the ITAA 1997 disregards a capital gain made from a CGT event where the amount relates to compensation or damages received for any 'wrong, injury or illness you ... suffer personally'.

Accordingly, the lump sum payment received by the taxpayer for pain, suffering and medical expenses is not assessable under either section 6-5 or section 102-5 of the ITAA 1997.

Year of income:  30 June 2005

Legislative References:
Income Tax Assessment Act 1997
   Section 6-5
   Section 6-10
   Section 10-5
   Section 15-30
   Section 102-5
   Paragraph 118-37(1)(b)

Related Public Rulings (including Determinations)
Taxation Ruling TR 95/35

Keywords
Capital gains tax
Compensation income
Personal injury awards

Business Line:  Small Business/Individual Taxpayers

Date of publication:  26 November 2004

ISSN: 1445-2782