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Edited version of your written advice
Authorisation Number: 1012737691742
Ruling
Subject: Compensation - investment
Questions
1. Is the compensation payment you received from a financial institution assessable as ordinary income?
Answer:
No.
2. Is the compensation payment you received from a financial institution assessable as a capital gain?
Answer:
Yes
This ruling applies for the following period:
Year ended 30 June 2014
The scheme commences on:
1 July 2013
Relevant facts and circumstances
You are a client of a financial institution and in the past have received financial planning advice from them.
You took their advice and signed up to invest with them.
In 201X you discussed and proceeded with instruction to the financial institution to make a non-concessional contribution to the fund. You also discussed the mix of investments to be made within the fund.
Further communication with the financial institution occurred to discover that no action had occurred in regards to the investment.
Later that month a claim was made against the financial institution based on the movement in value of investments within the investment within those dates
The next month you received a settlement from the financial institution, in full and final settlement of the claim.
Relevant legislative provisions
Income Tax Assessment Act 1997 Subsection 6-5(1),
Income Tax Assessment Act 1997 Section 104-25 and
Income Tax Assessment Act 1997 Paragraph 108-5(1)(b).
Reasons for decision
Subsection 6-5(1) of the Income Tax Assessment Act 1997 (ITAA 1997) that defines assessable income as including income according to ordinary concepts (ordinary income).
Federal Commissioner of Taxation (1966) 117 CLR 514; (1966) 10 AITR 367; (1966) 14 ATD 286).
• the form of the receipt, that is, whether it is received as a lump sum or periodically (Federal Commissioner of Taxation v. Dixon (1952) 86 CLR 540; (1952) 5 AITR 443; (1952) 10 ATD 82), and
• the motive of the person making the payment. Motive, however, is rarely decisive as in many cases a mixture of motives may exist (Hayes v. Federal Commissioner of Taxation (1956) 96 CLR 47; (1956) 6 AITR 248; (1956) 11 ATD 82).
Considering these four factors in your circumstances it is considered that the payment is not ordinary income as:
• the compensation was paid as a lump sum and once and for all
• there is no connection between any employment or services rendered by you and the payment made
• you did not rely on the payment for your regular expenditure, and
• the payment was not made to cover your regular expenses but to redress the situation which arose due to the incorrect advice given to you.
Accordingly, the payment is not assessable income under section 6-5 of the ITAA 1997 as it is not ordinary income.
Capital Gains
Taxation Ruling TR 95/35 provides that settlement of a claim to seek compensation for a breach of contract or other compensable damage represents the disposal of an asset under the capital gains tax (CGT) provisions. The disposal of the right to seek compensation gives rise to a CGT event.
In your case, you lodged a claim for compensation due to the financial institution failing to make your investment as agreed. A right to seek compensation is an asset for CGT purposes (paragraph 108-5(1)(b) of the ITAA 1997).
CGT event C2 happened when your ownership of that asset (the right to seek compensation) ended by the asset being satisfied or surrendered (section 104-25 of the ITAA 1997). This occurred when you disposed of your right to seek further compensation from the financial institution by accepting their settlement offer.
The compensation amount paid to you represents the capital proceeds from the disposal of that asset. The compensation payment was received in full and final settlement of every entitlement, right or claim which you might have had in connection with the failed investment by the financial institution.
As such, the compensation payment you received is assessable under the capital gains provisions.
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