Edited version of your private ruling

Authorisation Number: 1012624962978

Ruling

Subject: Government financial hardship payment to business

1. Are your ex gratia payments (EGP) received from the government assessable income under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997) in the income year in which they were derived (being the income year in which the invoices were dated)?

Yes.

2. Are the EGP assessable as a bounty or subsidy under section 15-10 of the ITAA 1997?

No.

3. Are the EGP assessable under the capital gains tax provisions in Division 104 of the ITAA 1997?

Yes, however any capital gain arising because of the receipt of the payment will be reduced to the extent that the payment is included in your assessable income under section 6-5 of the ITAA 1997.

4. If assessable under Division 104, are the general CGT discount and/or other small business concessions available, assuming the requirements of Division 152 of ITAA 1997 are met?

Not applicable.

This ruling applies for the following periods:

Year ending 30 June 2013

Year ending 30 June 2014

The scheme commences on:

1 July 2012

Relevant facts and circumstances

You carry on a business and applied for a government industry exit grant but did not qualify. However, in recognition of your special circumstances, the government provided some ex gratia payments to you specifically under a funding package to provide immediate assistance to businesses that suffered significant financial hardship. You were explicitly advised you received your EGP:

…in recognition of your need for pressing financial assistance at that time...in recognition of the specific circumstances of your business…and the financial detriment you have experienced…funding is intended to assist you to address your current financial hardship…

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 6-5

Income Tax Assessment Act 1997 Section 15-10

Income Tax Assessment Act 1997 Section 104-25

Income Tax Assessment Act 1997 Section 118-20

Reasons for decision

Summary

Your EGP were paid explicitly in reference to your existing business to address your current financial hardship at the time. They were not industry exit payments to cease business and there is no evidence to show your EGP were compensation for loss of future income (capacity) and goodwill. It follows they are assessable under section 6-5 of the ITAA 1997 as ordinary income in the income year in which they were derived. As they are assessable as ordinary income under section 6-5, they will not be assessable under section 15-10. Also, your payment in a lump sum does not require a conclusion that the payment is capital (per paragraph 85 of TR 2006/3).

Detailed reasoning

Section 6-5 of the ITAA 1997 is about ordinary income and provides that if you are an Australian resident, your assessable income includes the ordinary income you derived directly or indirectly from all sources, whether in or out of Australia, during the income year.

Section 15-10 of the ITAA 1997 is about bounties and subsidies and provides that your assessable income includes a bounty or subsidy that you receive in relation to carrying on a business and is not assessable as ordinary income under section 6-5 of the ITAA 1997.

Section 104-25 of the ITAA 1997 is about CGT event C2 and provides you make a capital gain if the capital proceeds from the ending of your ownership of an intangible CGT asset are more than the asset's cost base.

Section 118-20 of the ITAA 1997 is an anti-overlap provision and, in general, provides a capital gain you make from a CGT event is reduced if, because of the event, a provision of this Act (outside of this Part) includes an amount (for any income year) in your assessable income.

Taxation Ruling TR 2006/3 is about government payments to industry to assist entities (including individuals) to continue, commence or cease business. The following paragraphs of TR 2006/3 are relevant for consideration in your case:

Government payments to continue business

10. A GPI to assist a business to continue operating, except where the payment is for agreeing to give up or sell part of the profit yielding structure, is included as assessable income of the recipient under section 6-5 or section 15-10.

11. A GPI to provide income support because of an actual or expected reduction in business income is ordinary income in the hands of the recipient and assessable under section 6-5 in the income year in which it is derived.

12. A GPI to assist with business operating costs or liabilities is ordinary income in the hands of the recipient and is assessable under section 6-5 in the income year in which it is derived.

14. A GPI for loss of profits because of government policy or industry restructure is assessable under section 6-5 in the income year in which it is derived. This includes where loss of profit is calculated with regard to factors that are not readily identifiable with the reason for the payment (for example, if calculated by an anticipated or estimated loss or diminution in value of plant or equipment).

Example 13 - Payment for ending part of a business calculated by reference to the estimated loss in value of a depreciating asset - operator continues to use the asset

67. Due to an industry restructure, an entity's profit yielding structure is significantly reduced requiring it to cease carrying on part of its business activity. It receives a GPI which is calculated having regard to the estimated loss in value of some items of depreciating assets. The loss in value was assessed by estimating the difference between the value within the business as a going concern and the salvage or auction value as a consequence of ceasing that part of the business in which the items were used. Even though the entity stops carrying on part of its business, it does not dispose of the items but continues to use them in other parts of its business.

68. The payment is not ordinary income as it relates to the change in the income earning structure due to ending part of the business operations.

69. The payment is of a capital nature but is not received in relation to carrying on a business. The payment is not directed at the income earning activity of the business but is for agreeing to end part of the business.

70. The entity retains and continues to use the assets, which continue to decline in value for the purposes of the capital allowance provisions of Division 40. As no balancing adjustment event for the assets occurs, the payment is not taken into account in working out a balancing adjustment for any of the assets as provided for under Subdivision 40-D.

71. The amount received by the entity was paid for its agreement to cease carrying on a part of its business which resulted in a loss in value of the depreciating assets considered to be surplus. The payment was not made in respect of any outgoing the entity may have incurred on the assets, such as their purchase cost. Accordingly, the amount received was not paid for an existent loss or outgoing for any of the entity's assets. The amount received is not an assessable recoupment of a loss or outgoing under Subdivision 20-A. However, the recipient of the GPI will need to consider whether there are any CGT consequences (see paragraph 6 of this Ruling).

Taxation Ruling TR 95/35 is about capital gains and the treatment of compensation receipts. It defines a 'right to seek compensation' and an 'undissected lump sum compensation receipt' as follows:

The right to seek compensation is the right of action arising at law or in equity and vesting in the taxpayer on the occurrence of any breach of contract, personal injury or other compensable damage or injury. A right to seek compensation is an asset for the purposes of Part IIIA. The right to seek compensation is acquired at the time of the compensable wrong or injury, and includes all of the rights arising during the process of pursuing the compensation claim. The right to seek compensation is disposed of when it is satisfied, surrendered, released or discharged.

An undissected lump sum compensation receipt is any amount of compensation received by the taxpayer where the components of the receipt have not been and cannot be determined or otherwise valued or reasonably estimated.

Paragraph 18 of TR 95/35 states if the amount of compensation received is an undissected lump sum, the whole amount is treated as being consideration received for the disposal of the right to seek compensation (which will constituted CGT event C2 under section 104-25 of the ITAA 1997).

In your case, the EGP you received were specifically described as "in recognition of the specific circumstances of your business...the financial detriment you have experienced…intended to assist you to address your current financial hardship". Since this meets the descriptions in paragraphs 10 to 14 of TR 2006/3, i.e., a GPI to assist the continuing of your business, your EGP received are assessable as ordinary income under section 6-5 of the ITAA 1997 in the year in which they are derived (being the income year in which the invoices were dated). As the EGP are assessable as ordinary income under section 6-5, they are not assessable as a bounty or subsidy under section 15-10 of the ITAA 1997.

Your EGP received was not for ceasing your business or a portion of it, since you were not required to agree to cease all or a part of your business. Your EGP were also not explicitly for the loss in value of depreciating assets since the EGP was never described as such. In other words, your EGP was not received in such circumstances as described in example 13 of TR 2006/3.

Contrary to your assertions in your private ruling application, there is no evidence to support your EGP were compensation for loss of future income (capacity) and goodwill. Instead, the EGP were explicitly paid to assist you to address your current financial hardship.

Although your EGP were also un-dissected lump sum compensation receipts in respect of a right to receive compensation, the anti-overlap provision in section 118-20 of the ITAA 1997 results in them not being accounted for under the capital gains tax provisions in Parts 3-1 and 3-3 of the ITAA 1997.

To conclude, your EGP were paid in reference to your existing business for financial hardship, i.e., as income replacement. It follows they are assessable under section 6-5 of the ITAA 1997 as ordinary income. Per paragraph 85 of TR 2006/3, the EGP in a lump sum does not require a conclusion that the payment is capital.

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