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Edited version of your written advice

Authorisation Number: 1012746465725

Ruling

Subject: Assessability of payments from an income replacement insurance policy

Question 1

Is the compensation amount of $X, received from your insurer, assessable income under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997) or the Capital Gains Tax provisions of ITAA 1997?

Answer

No

Question 2

Are the compensation amounts totalling $X, received from your insurer as part of the income replacement policy for lost wages, assessable income under section 6-5 of the ITAA 1997?

Answer

Yes

This ruling applies for the following period

Year ending 30 June 2015

The scheme commenced on

1 July 2014

Relevant facts

You operate a business.

You took out an income replacement insurance plus policy (policy). The policy contained a specified injury benefit.

The policy provides a monthly benefit if the life insured experiences a loss in income due to sickness or injury. You also selected a specified injury benefit as part of the policy. The specified injury benefit option was for a fixed period of benefit for the specific injury.

Whilst on the job you sustained the specific injury.

You returned to work sometime after the injury.

The first payment you received from your insurer was $X. This amount was payment for a specified injury benefit. This payment did not replace income because, if you could work and receive income, you would still be entitled to receive this amount. The payment included $X as a premium refund.

The second payment you received was $X. This amount was payment for loss of wages and included an amount of $X which was a premium refund.

The third and fourth payments totalling $X were received by you. This amount was payment for loss of wages and included an amount of $X which was a premium refund.

Relevant legislative provisions

Income Tax Assessment Act 1997 Subsection 6-1(1)

Income Tax Assessment Act 1997 Subsection 6-5(1)

Income Tax Assessment Act 1997 Subsection 6-15(1)

Income Tax Assessment Act 1997 Paragraph 118-37(1)(b)

Reasons for decision

Question 1

Assessable income consists of ordinary income and statutory income under subsection 6-1(1) of the Income Tax Assessment Act 1997 (ITAA 1997).

Ordinary income

Subsection 6-5(1) of the ITAA 1997 provides that assessable income includes income according to ordinary concepts, which is called ordinary income.

Ordinary income has generally 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:

The payment of the specified injury benefit amount was not earned by you as it does not directly relate to services performed. Rather the payment relates to personal injury suffered whilst working. The payment is also a one-off payment and thus does not have an element of recurrence or regularity. Although the payment can be said to be expected, and perhaps relied upon, this expectation arises from the investment in insurance, rather than from a relationship with personal services performed.

The lump sum payment of benefits is not considered ordinary income and is therefore not assessable under section 6-5 of the ITAA 1997.

Statutory income

Section 6-10 of the ITAA 1997 provides that amounts that are not ordinary income but are included in assessable income by specific provisions of the income tax law, are called statutory income.

These specific provisions of the income tax law are listed in section 10-5 of the ITAA 1997, and include the capital gains tax (CGT) provisions.

Taxation Ruling TR 95/35 deals with the capital gains treatment of compensation receipts. TR 95/35 provides that an insured's right of indemnity under a policy of insurance falls within the definition of a right to seek compensation. The whole of the settlement amount is thus treated as capital proceeds from a CGT event happening to the taxpayer's right to seek compensation.

However, paragraph 118-37(1)(b) of the ITAA 1997 disregards a capital gain made from a CGT event where the amount relates to compensation or damages received for any 'wrong, injury or illness you suffer personally'. Therefore any capital gain made from the CGT event happening to your right to seek benefits (compensation) under your policy is disregarded under paragraph 118-37(1)(b).

The lump sum payment of benefits that you received under your policy is therefore not statutory income.

Subsection 6-15(1) of the ITAA 1997 provides that if an amount is not ordinary or statutory income it is not assessable income. Consequently no part of the amount you received is included in your assessable income.

Question 2

Subsection 6-5(1) of the ITAA 1997 provides that a taxpayer's assessable income includes income according to ordinary concepts, which is called ordinary income.

Income according to ordinary concepts has been held by the courts to include income from the rendering of personal services, income from property and income from carrying on of a business.

An amount paid to compensate for loss generally acquires the character of that for which it is substituted (FC of T v. Dixon (1952) 86 CLR 540). Compensation payments which substitute income have been held by the courts to be income under ordinary concepts (FC of T v. Inkster 89 ATC 5142, 20 ATR 1516; Tinkler v. FC of T 79 ATC 4641, 10 ATR 411; Case Y47 91 ATC 433, 22 ATR 3422).

In your case you received periodic payments to compensate you for the loss of wages from your insurer. These payments will continue to be characterised as income according to ordinary concepts. The compensation payments are therefore assessable as ordinary income under section 6-5 of the ITAA 1997.

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