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This edited version has been archived due to the length of time since original publication. It should not be regarded as indicative of the ATO's current views. The law may have changed since original publication, and views in the edited version may also be affected by subsequent precedents and new approaches to the application of the law.

You cannot rely on this record in your tax affairs. It is not binding and provides you with no protection (including from any underpaid tax, penalty or interest). In addition, this record is not an authority for the purposes of establishing a reasonably arguable position for you to apply to your own circumstances. For more information on the status of edited versions of private advice and reasons we publish them, see PS LA 2008/4.

Edited version of private advice

Authorisation Number: 1012640566692

Ruling

Subject: Compensation payments

Question 1

Will the weekly payments constitute ordinary income in accordance with section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes

Question 2

Will the up-front compensation payment constitute assessable income under section 6-5 of the ITAA 1997?

Answer

No

Question 3

Will the up-front compensation payment represent capital proceeds in respect of a CGT event occurring?

Answer

No

Question 4

Will the up-front compensation payment reduce the cost base of the property?

Answer

Yes

This ruling applies for the following period

Year ending 30 June 2013

Year ending 30 June 2014

Year ending 30 June 2015

Year ending 30 June 2016

The scheme commences on

1 July 2012

Relevant facts and circumstances

You own the property.

You have entered into an agreement allowing others to conduct activities on your property.

Under the Agreement, you will be compensation in accordance with the relevant legislation for the effect of the activities to be carried out on the property.

Prior to entering into the Agreement, you engaged property advisors to prepare a report detailing the estimated financial impact of the activities. This included a valuation of the property both prior to and after the activities.

You used these valuations as a starting point for negotiating the compensation that was to be paid to you for the diminished value of the property.

An up-front payment was to be paid on the signing of the Agreement.

The activities to be carried out on the land also included the construction of a campsite on the land that would be used to accommodate the crew carrying out some of the activities.

The Agreement provides and additional weekly payment for every week (or part thereof) that the camp is operational.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 6-5

Income Tax Assessment Act 1997 Section 6-10

Income Tax Assessment Act 1997 Subsection 110-40(3)

Income Tax Assessment Act 1997 Subsection 110-55(6)

Reasons for decision

Weekly payment

Section 6-5 of the ITAA 1997 assesses ordinary income. Ordinary income has generally been held to include three categories, namely, income from rendering personal service, income from property and income from carrying on a business.

Based on case law, it can be said that ordinary income generally includes receipts that have the following characteristics:

Rental receipts received from leasing property exhibit the above characteristics and are held to be ordinary income.

For income tax purposes, an amount paid to compensate for a loss generally acquires the character of that for which it is substituted (Federal Commissioner of Taxation v. Dixon (1952) 86 CLR 540; (1952) 5 AITR 443; 10 ATD 82). Compensation payments which substitute income have been held by the courts to be income under ordinary concepts (Federal Commissioner of Taxation v. Inkster (1989) 24 FCR 53; (1989) 20 ATR 1516; 89 ATC 5142, Tinkler v. FC of T (1979) 10 ATR 411; 79 ATC 4641, and Case Y47 (1991) 22 ATR 3422; 91 ATC 433).

The Agreement provides that you will be paid an amount of $X per week for each week (or part thereof) that the campsite is operational. The payments are received for the use of part of the property and are similar to rental payments.

Accordingly the payments of $X per week in relation to the campsite constitute ordinary income in accordance with section 6-5 of the ITAA 1997.

Up-front payment

Taxation Ruling TR 95/35 provides the Commissioner's view on the taxation implications of compensation receipts. To determine the tax treatment of a compensation payment a 'look through' approach is adopted to identify the relevant asset to which the compensation relates. If no underlying asset can be identified, the compensation may relate to the disposal of the right to seek compensation.

Having regard to your full circumstances, it is accepted that the up-front compensation payment will primarily relate to the damage and the loss of use and amenity of an underlying asset, being the property.

Consequently the up-front compensation payment will not be assessable income under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997) as the payment relates to a capital asset.

We consider that the up-front compensation payment relates to a permanent reduction in the value of the property. In this instance as there is no disposal of the underlying asset the receipts will instead amount to a reduction of the cost base of the property as a recoupment of the purchase costs.

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