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Edited version of your written advice

Authorisation Number: 1051243327458

Date of advice: 29 June 2017

Ruling

Subject: Assessable income - income protection insurance

Question 1

Is the total disability benefit payment received from your insurer as a lump sum assessable income?

Answer

Yes

This ruling applies for the following periods:

Year ended 30 June 2016

The scheme commences on:

1 July 2015

Relevant facts and circumstances

You took out an income protection policy with an insurer.

Under the policy, where you are totally or partially disabled, subject to certain conditions being satisfied, you are paid a 'total disability benefit’ or 'partial disability benefit’ as applicable.

You were considered to be totally disabled for the purposes of the policy.

You were entitled to receive periodic disability benefits under the policy. You have previously been paid periodic payments.

Under the policy the insurer can change future disability benefit payments into a lump sum.

You were paid a lump sum for your future benefits.

Relevant legislative provisions

Income Tax Assessment Act 1997 6-5.

Reasons for decision

Summary

The periodic payments you were entitled to receive under the policy were not payments for your disability, or for your loss of earning capacity caused by the disability. The sole purpose of the periodic payments was to substitute for the income you would have otherwise earned if not for your incapacity to earn as a result of the disability. The lump sum you received takes on the nature of the periodic payments that it was paid to replace and is assessable as ordinary income.

Detailed reasoning

Your assessable income includes income according to ordinary concepts, which is called ordinary income (section 6-5 of the ITAA 1997).

Ordinary income has generally been held to include 3 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:

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; (1952) 5 ATR 443; 10 ATD 82). Compensation payments which substitute income have been held by the courts to be income according to ordinary concepts (FC of T v. Inkster 89 ATC 5142; (1989) 20 ATR 1516 (Inkster) and Tinkler v. FC of T 79 ATC 4641; (1979) 10 ATR 411).

As such, periodic payments received under an income protection policy during a period of total or partial disability are assessable as ordinary income where the payments are received to replace the income that would have been earned during that period if not for the disability.

The question whether lump sum payments of compensation resulting from personal sickness and accident, or other disability policies are assessable has been considered in a number of cases such as Sommer v FC of T 2002 ATC 4815; 51 ATR 102 and Gorton v FC of T [2008] AATA 280 (Gorton). Those cases involved a settlement between the taxpayer and insurer where the taxpayer received a lump sum. At paragraph [19] in Sommer it was stated by Merkel J:

The Court stated that it was well established that a payment in settlement of such claims was assessable as ordinary income.

Application to your circumstances

There is nothing in the facts that suggest that there was a settlement reached with the insurer. The insurer has paid the amounts owed under the policy as a lump sum as opposed to making regular monthly payments in order to finalise your claim. The insurer was entitled to do this. However the law in relation to settlements discussed above is applicable.

As the periodic payments you were entitled to receive under the policy were paid in substitution for your loss of earnings, and not for any loss of earning capacity, the received sum is considered ordinary income as it takes on the income nature of the periodic payments it was paid to replace. Therefore, the received sum is ordinary income and it is included in your assessable income under section 6-5 of the ITAA 1997.

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