ATO Interpretative Decision

ATO ID 2003/1064 (Withdrawn)

Income Tax

• This ATO ID has been withdrawn as it is a simple restatement of the law and does not contain an interpretative decision.
  This document incorporates revisions made since original publication. View its history and amending notices, if applicable.

Issue

Will the income received under a structured settlement be exempt income under Division 54 of the Income Tax Assessment Act 1997 (ITAA 1997) where the structured settlement annuity is purchased from an Australian life insurance company?

Decision

Yes. The income received under this structured settlement will be exempt income under Division 54 of the ITAA 1997 where the structured settlement annuity is purchased from an Australian life insurance company.

Facts

A child was born with severe disabilities and has associated learning difficulties.

An overseas court awarded damages to the child.

The parents decided to emigrate to Australia. The court order was made to enable transfer of the damages to Australia. The court order specifies an amount of damages to be awarded by way of a structured settlement.

Under the structured settlement, the defendant proposes to purchase an annuity from an Australian life insurance company.

Reasons for Decision

Division 54 of the ITAA 1997 was enacted to provide that income from structured settlement annuities is exempt from tax subject to the satisfaction of a number of conditions.

The following is a summary of those conditions taken from the Explanatory Memorandum to the Taxation Laws Amendment (Structured Settlements and Structured Orders) Bill 2002:

Settlement Conditions

A structured settlement is the settlement of a claim that meets the following five conditions.

Condition 1

The claim must be for compensation or damages for personal injury suffered by a person and the claim must be made by the injured person or by his or her legal personal representative (subparagraphs 54-10(1)(a)(i) and 54-10(1)(a)(ii) of the ITAA 1997).

Condition 2

The claim must be based on the commission of a wrong, or on a right created by statute (paragraph 54-10(1)(b) of the ITAA 1997).

Condition 3

The claim cannot be an action against the injured persons employer, or an associate of the employer, or a claim made under workers compensation law or a claim that could instead be made under workers compensation law (subparagraphs 54-10(1)(c)(i) and 54-10(1)(c)(ii) of the ITAA 1997).

Condition 4

The settlement must be in a written agreement between the parties to the claim. This requirement applies whether or not the agreement is approved by an order of a court or is embodied in a consent order made by a court (paragraph 54-10(1)(d) of the ITAA 1997).

Condition 5

The terms of the settlement must provide for some or all of a lump sum award of compensation or damages to be used by the defendant or the defendants insurer to be paid to, or for the benefit of, the injured person (or to a trustee) in the form of:

•

an annuity or group of annuities purchased from a life insurance company (as defined in subsection 995-1(1) of the ITAA 1997 to mean a life insurance company registered to carry on business in Australia under the Life Insurance Act 1995) or State insurers, or

•

an annuity or group of annuities combined with one or more deferred lump sums purchased from a life insurance company (as defined in subsection 995-1(1) of the ITAA 1997) or State insurers

(subparagraphs 54-10(1)(e)(i) and 54-10(1)(e)(ii) of the ITAA 1997).

Annuity Conditions

Annuities eligible for income tax exemption

The following conditions must be met in order for a structured settlement annuity to be eligible for the tax exemption.

Condition 1 - lump sum would have not been taxable

The tax exemption will only be available if the compensation payment or damages, if paid in the form of a lump sum at the date of settlement, would not have to be included in the assessable income of the injured person (section 54-20 of the ITAA 1997).

Condition 2 - identification of settlement and beneficiaries

The annuity instrument must:

•

identify the structured settlement under which the annuity is provided;

•

only allow for payments of the annuity to be made to:

-

the injured person,

-

a trustee of a trust of which the injured person is the beneficiary, or

-

a reversionary beneficiary, and

•

contain a statement to the effect that the annuity cannot be assigned and cannot be commuted except by a reversionary beneficiary

(section 54-25 of the ITAA 1997)

Condition 3 - minimum period of annuity

The annuity instrument must provide that the payments of the annuity are to be made at least annually:

•

over a period of at least 10 years during the life of the injured person, or

•

for the life of the injured person.

an annuity or annuities which make up the minimum level of support must be paid at least monthly.

The annuity instrument must specify:

•

the date of the first payment of the annuity;

•

if the annuity specifies a fixed period of years - the date of the last payment in that period, and

•

the amount of each periodic payment of the annuity.

The annuities can only be increased as follows:

•

in a manner which preserves their real value, that is, indexation in accordance with the All Groups CPI number or full-time adult average weekly ordinary times earnings published by the Australian Statistician; or

•

by a percentage specified in the annuity instrument

(section 54-30 of the ITAA 1997)

Condition 4 - maximum guarantee period

This condition is relevant only to annuities provided under the structured settlement in the period ending 10 years after the date of settlement.

An annuity instrument can provide for a guarantee period of up to 10 years after the date of settlement. If the injured person dies within this period, the payments that would otherwise have been paid during the remainder of the guarantee period to the injured person can be paid instead to either:

•

the injured persons estate, or

•

a reversionary beneficiary

(section 54-35 of the ITAA 1997)

Condition 5 - minimum monthly level of support

An annuity (or annuities paid under the structured settlement as a whole) must provide a minimum monthly level of support over the annuitants life. That is, the minimum monthly level of support can be provided by different annuities.

The minimum monthly level of support is determined as follows:

•

for the year starting on the date of settlement, one-twelfth of the amount that is, on that date, the sum of:

-

the maximum basic rate of age pension payable to a person in accordance with item 1 of Table B in point 1064-B1 of Pension Rate Calculator A in section 1064 of the Social Security Act 1991, and

-

the amount of a persons pension supplement, worked out (using that maximum basic rate) in accordance with Module BA of that Pension Rate Calculator; and

•

for any subsequent year starting on an anniversary of the date of the settlement:

-

if the indexation factor for the year is greater than 1, the amount worked out under subsection 54-40(4) of the ITAA 1997 or

-

otherwise - the minimum monthly level of support for the previous year.

In working out the rate and amount that need to be taken into account under paragraph 54-40(2)(a) of the ITAA 1997, the effect of the indexation provisions in sections 1191 to 1195 of the Social Security Act 1991 must be taken into account.

The indexation factor referred to in subparagraph 54-40(2)(b)(i) of the ITAA 1997 for a year is to be worked out on the anniversary of the date of settlement in accordance with the following formula:

The most recent published All Groups CPI number for a quarter / All Groups CPI number for the same quarter in the previous year


(section 54-40 of the ITAA 1997)

Whether the proposed settlement qualifies for exemption under Division 54 of the ITAA 1997

Settlement Conditions

The proposed structured settlement fulfils the settlement conditions 1-4 above as follows:

Condition 1

The claim is for a personal injury and the claim is made by their legal personal representative (the father of the claimant).

Condition 2

The claim is based on the commission of a wrong (disability as a result of a motor vehicle accident, for which liability has been determined)

Condition 3

The claim is not an action against the injured persons employer, or an associate of the employer, or a claim made under workers compensation law or a claim that could instead be made under workers compensation law - the injured person was a child in utero at the time of the event leading to the claim.

Condition 4

The settlement is in a written agreement between the parties to the claim. The agreement in this case is approved by an order of a court or is embodied in a consent order made by a court.

An order obtained in an overseas jurisdiction may satisfy the terms for a structured settlement provided the insurer with whom the annuity is effected is an Australian insurer.

Condition 5

An annuity (or annuities paid under the structured settlement as a whole) must provide a minimum monthly level of support over the annuitants life.

The settlement does not presently satisfy Condition 5. However if a favourable ruling on the proposed arrangements is issued, an annuity which satisfies the provisions of Division 54 will be purchased.

Annuity Conditions

An annuity will fulfil Condition 1 as no part of the lump sum will be included in the assessable income of the rulee. As the annuity has not been purchased, it is not currently possible to determine whether the proposed annuity fulfils the annuity Conditions 2-5 above.

However, as the proposed structured settlement is to be drafted to satisfy the exemption provisions in Australian income tax legislation, in particular being entered into with an Australian life insurance company, the settlement will be tax exempt if it complies with the provisions of section 54 of the ITAA 1997.

Year of income:  Year ended 30 June 2004 Year ended 30 June 2005 Year ended 30 June 2006

Legislative References:
Income Tax Assessment Act 1997
   section 54-10
   section 54-20
   section 54-25
   section 54-30
   section 54-35
   section 54-40

Other References:
Explanatory Memorandum to the Taxation Laws Amendment (Structured Settlement and Structured Orders) Bill 2002

Keywords
Annuity income
Exempt income
Income
Insurance & insurance industry
Life insurance policies
Structured Settlements

Business Line:  Finance and Investment Centre of Expertise

Date of publication:  28 November 2003

ISSN: 1445-2782