Edited version of your written advice

Authorisation Number: 1051254812099

Date of advice: 19 July 2017

Ruling

Subject: Reimbursement payment

Question 1

Is the deceased estate assessed on the fee reimbursement or interest income received?

Answer

No.

Question 2

Are the beneficiaries assessed on the fee reimbursement and interest income received?

Answer

Yes.

This ruling applies for the following period

Year ending 30 June 2017

The scheme commenced on

1 July 2016

Relevant facts

Entity A and entity B are the administrators and executors of a deceased estate.

A final tax return for the Deceased Estate was lodged a few years ago. At that time it was considered that the Estate was finalised.

The executors of the estate received a cheque.

The deceased had an investment. A fee reimbursement was due to be paid to the estate. The deceased had been charged fees for services that were not provided. As a result the relevant entity repaid those fees.

The reimbursement payment is made up of a fee reimbursement and an interest component.

A deduction relating to the investment was previously claimed.

The two executors are the beneficiaries of the estate. These beneficiaries are presently entitled to the income and corpus of the trust.

Relevant legislative provisions

Income Tax Assessment Act 1997 Subsection 6-5(2).

Income Tax Assessment Act 1997 Subsection 20-20(2).

Income Tax Assessment Act 1936 Division 6.

Reasons for decision

Interest income

Subsection 6-5(2) of the Income Tax Assessment Act 1997 (ITAA 1997) provides that the assessable income of an Australian resident includes the ordinary income they derived directly or indirectly from all sources, whether in or out of Australia, during the income year.

Interest income is regarded as ordinary assessable 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 payment of interest is regarded as a compensation payment for the interest income that may have otherwise been received.

As the interest payment received is for loss of interest income, the payment is assessable as ordinary income under subsection 6-5(2) of the ITAA 1997.

Assessable recoupment

The reimbursement of fees is not regarded as ordinary income. However Subdivision 20-A of the ITAA 1997 about assessable recoupments is relevant.

Under subsection 20-20(2) of the ITAA 1997, an amount received as recoupment of a loss or outgoing is an assessable recoupment if you received the amount by way of insurance or indemnity and you have deducted or can deduct an amount for it for an earlier income year.

Recoupment of a loss or outgoing includes any kind of recoupment, reimbursement, refund, insurance, indemnity or recovery (subsection 20-25(1) of the ITAA 1997).

An indemnity is not defined in the ITAA 1997, so takes its ordinary meaning. Indemnity is defined in the Macquarie Dictionary as being something paid by way of compensation for damage or loss sustained.

An indemnity contemplates an obligation (whether by virtue of a contract, statute or a breach of some common law duty of care) to make good, or to compensate for, a loss (Commercial Banking Company of Sydney Ltd v FCT (1983) 14 ATR 142).

In this case, the fee reimbursement is regarded as an amount received by way of indemnity.

The annual review fee was a deductible expense. As the deceased was entitled to and claimed a deduction for the fees, the reimbursement payment is an assessable recoupment under subsection 20-20(2) of the ITAA 1997.

Deceased estate

A deceased estate comes about because of a person's death.

As outlined in Tax Ruling IT 2622 Income tax: present entitlement during the stages of administration of deceased estates, the executor or administrator, in effect, steps into the shoes of the deceased and winds up the deceased's personal affairs. The net income of the trust is then assessed to the beneficiary or to the trustee depending on whether the beneficiary is presently entitled to income of the trust estate.

Beneficiaries are presently entitled to the income of a deceased estate if they have an indefeasible, absolutely vested interest in the income. In other words, the beneficiaries have a claim or interest in the income that cannot be defeated by another person. They must also be able to demand immediate payment of the income. This means that beneficiaries can be presently entitled even though they may not have actually received an income distribution.

Where residue of the estate has been ascertained and the estate has been fully administered, residuary beneficiaries enjoy present entitlement to income derived by the estate. That is income derived after the estate is finalised is assessed for tax to the beneficiaries who are presently entitled.

In this case, as the administration of the deceased estate is finalised, no tax is payable by the deceased estate.

As the beneficiaries are presently entitled to the income, their share of the income is included in their assessable income.

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