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Ruling

Subject: Assessability of lump sum payment

Questions and answers:

Is the lump sum amount of salary continuance benefits paid to you as a result of a disability insurance claim assessable income?

Yes.

Is the lump sum payment assessable in the year it is actually received?

Yes.

This ruling applies for the following period:

Year ended 30 June 2010

The scheme commenced on:

1 July 2009

Relevant facts and circumstances

You held an income protection policy which you and your spouse paid for yourselves.

You became ill and suffered injuries and were no longer able to work.

You attempted to claim payments from your insurance policy and were refused.

You sought advice from your lawyer.

You have received a lump sum payment from this policy covering a period of more than one financial year as part of a legal settlement.

A letter from your lawyer states that you won a salary continuance insurance claim and will be paid a disability lump sum representing monthly insurance benefits for a specified number of years.

The lump sum was received in the relevant income year.

The Insurer also decided to pay you a total and permanent disability (TPD) benefit although you may dispute your entitlement to this. The amount of the TPD benefit is not yet known.

The insurer confirmed the amount of the salary continuance benefits to date and how they are calculated.

You received a lump sum after payment of your costs and disbursements to date (including GST) in respect of the salary continuance claim.

The costs and disbursements deducted from your lump sum by your lawyer did not include any repayments to any organisations.

The insurer has not deducted any tax from the lump sum.

Your lawyer suggests that the payment will be treated as income by the Tax Office.

The insurer has asserted that because you are TPD the benefit period under the salary continuance policy has therefore expired and no further benefits are payable.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 6-5

Income Tax Assessment Act 1997 Subsection 6-5(2)

Reasons for decision

Please note that all references are to the Income Tax Assessment Act 1997 (ITAA 1997) unless otherwise stated.

Assessability of lump sum payment

Section 6-5 advises that the assessable income of an Australian resident includes income according to ordinary concepts (ordinary income) derived directly or indirectly from all sources, whether in or out of Australia during an income year.

Ordinary income has been held to include three 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:

It is not necessary for all of these characteristics to be present for an amount to be considered ordinary income. A lump sum payment is generally classified as ordinary income if it is simply a lump sum made up of periodic income payments but paid in arrears to cover a certain period.

An amount paid to compensate for loss generally acquires the same nature of what it is substituting (FC of T v. Dixon (1952) 86 CLR 540; (1952) 5 ATR 443; 10 ATD 82). Compensation payments which substitute income have been held by the courts to be income under ordinary concepts (FC of T v. Inkster (1989) 20 ATR 1516; 89 ATC 5142; Tinkler v. FC of T (1979) 10 ATR 411; 79 ATC 4641; Case Y47 (1991) 22 ATR 3422; 91 ATC 433).

As a result of sickness and injuries, you were unable to work and after unsuccessfully attempting a salary continuance insurance claim you approached your lawyer for assistance.

You received a letter from your lawyer advising that you had won the disability insurance claim and you would be paid a lump sum representing monthly insurance benefits covering the period you were unable to work. Your lawyer also confirmed that the insurer has also decided to pay you a total and permanent disability (TPD) benefit although at the stage of receiving this letter the amount of TPD benefit was unknown.

Your insurer provided you with a copy of the schedule of your monthly benefits and how they were calculated.

In your case you were paid a disability lump sum amount from a salary continuance insurance claim representing monthly insurance benefits covering several income years. This lump sum was received in the relevant income year and clearly falls within the ambit of the cases discussed above.

The lump sum is ordinary income as it acquires the character of the income for which it substituted: a salary continuance payout replaces the salary you would have been earning for the period it covers. The fact that the payment was received as a lump sum does not change the nature of the payment. The lump sum payment replaces the income normally earned, expected and relied upon.

Furthermore, where the lump sum amount is considered to be income under ordinary concepts, it is assessable in the income year it is received for the purposes of section 6-5, even though the payment may relate to a past or future income period (Taxation Ruling TR 98/1).

Accordingly, the lump sum you received is ordinary income and is fully assessable under section 6-5 in the relevant income year.

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