Edited version of private advice

Authorisation Number: 1051786589930

Date of advice: 8 December 2020

Ruling

Subject: Compensation

Question

Will the lump sum payment or any portion thereof, made pursuant to paragraph 78A(1)(a) of the Return to Work Act 1986 (NT) be assessable as either ordinary income or as a capital gain?

Answer

No.

This ruling applies for the following period:

Financial year ending 30 June 20XX

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

You sustained injuries in the course of your employment.

As a result of the injuries, you have submitted claims for compensation pursuant to the Return to Work Act 1986 (NT) (the Act) and you received entitlements on the basis of 'total incapacity for work'.

On XX/XX/XXXX, the insurer issued you a notice ceasing weekly payments as at XX/XX/XXXX. You made an application for mediation on the notice of ceasing weekly payments and on XX/XX/XXXX, it was listed for XX/XX/XXXX.

On XX/XX/XXXX, you made an application for reassessment of permanent impairment.

On XX/XX/XXXX, the claim proceeded to mediation and a certificate of no change was issued on XX/XX/XXXX.

On XX/XX/XXXX you commenced an application in the Work Health Court against the employer in relation the claim (the proceedings).

On XX/XX/XXXX, the Work Health Court notified all parties of a directions hearing, which was heard on XX/XX/XXXX. At the directions hearing you and the insurer for and on behalf of the employer entered into negotiations for the settlement of the claim for compensation by way of lump sum payment as provided by section 78A of the Act.

Part 5, Division 4A of the of the Act deals with settlement by agreement of entitlement to compensation. Section 78A(1) states:

As an alternative to being paid an amount, or all amounts, payable under this Act in respect of an injury, a claimant may enter into an agreement of one of the following types:

(a)  an agreement with the employer for payment of a lump sum;

(b)  an agreement with the employer for a structured settlement.

The employer and their insurer have agreed to resolve your entitlement to compensation pursuant to the Act in respect of the injury in accordance with paragraph 78A(1)(a) of the Act, by entering into an Agreement for payment of a undissected lump sum payment of $XXX,XXX and $X,XXX in legal costs and up to $XXX for costs incurred for tax advice.

The settlement sum of up to $ XXX,XXX is inclusive of any statutory charges, legal costs and disbursements and taxation or financial advice.

On payment of the settlement amount you acknowledge that you are no longer entitled to any further or future payments under the Act in respect of the injury, the claim, the dispute and the proceedings to which the Worker's Compensation relates.

Within 7 days of receiving the lump sum settlement amount your legal representative will file a notice of discontinuance with no order as to costs. The insurer for and on behalf of the employer will agree the same.

Relevant legislative provisions

Income Tax Assessment Act 1997 subsection 6-5(2)

Income Tax Assessment Act 1997 section 6-10

Income Tax Assessment Act 1997 Part 3-1

Income Tax Assessment Act 1997 section 102-5

Income Tax Assessment Act 1997 section 104-25

Income Tax Assessment Act 1997 subparagraph 118-37(1)(a)(i)

Reasons for decision

Ordinary 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 derived directly or indirectly from all sources, whether in or out of Australia, during the income year.

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:

•         are earned,

•         are expected,

•         are relied upon, and

•         have an element of periodicity, recurrence or regularity.

Payments of salary and wages are income according to ordinary concepts and are included in your assessable income.

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 and Tinkler v. FC of T 79 ATC 4641; (1979) 10 ATR 411).

Lump sum payments

Taxation Determination TD 93/58 Income tax: under what circumstances is the receipt of a lump sum compensation/settlement payment assessable? explains that lump sum compensation is assessable income if the payment is for loss of income only or to the extent that a portion of the lump sum is identifiable and quantifiable as income.

In your case you were making a claim for workers' compensation. You have now been offered a lump sum payment in satisfaction of all your rights under the Return to Work Act 1986 (NT). Entitlements under that Act include compensation for medical and rehabilitation expenses (under sections 73 to 78) and a lump sum compensation amount for permanent impairment (under section 71). The lump sum you have been offered is not compensation for loss of income only and there is no portion of the lump sum that is identifiable and quantifiable as income.

The lump sum settlement to be received does not relate to personal services, property, or the carrying on of a business. 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 does not arise from the performance of personal services. In your circumstances, the lump sum payment is not for loss of income and not ordinary income and is therefore not assessable under subsection 6-5(2) of the ITAA 1997.

Section 6-10 of the ITAA 1997 provides that amounts that are not ordinary income but are included in assessable income by another provision, are called statutory income, and are also included in assessable income.

Amounts received as a lump sum are generally capital in nature and are potentially taxable as statutory income under the Capital Gains Tax (CGT) provisions of the ITAA 1997.

Capital gains

Part 3-1 of the ITAA 1997 contains the capital gains and capital loss provisions commonly referred to as the CGT provisions. You make a capital gain or capital loss if a CGT event happens in respect of a CGT asset.

Section 104-25 of the ITAA 1997 provides that CGT event C2 happens on the ending of the right to seek compensation, that is, the right to take legal action. The lump sum amount you will receive will be capital proceeds for this CGT event and a capital gain will usually arise.

The net capital gain you make is then included in your assessable income under section 102-5 of the ITAA 1997.

CGT Exemption

Paragraph 118-37(1)(a)(i) of the ITAA 1997 allows a capital gain to be disregarded if it is compensation or damages you receive for any wrong or injury you suffer in your occupation.

Paragraph 5 of Taxation Determination TD 93/3 states that a payment which is a redemption of all of an injured worker's rights under a Compensation Act is a capital payment but is not assessable under the capital gains tax provisions due to the illness/injury exemption contained in those provisions.

In your case, your undissected lump sum payment is not considered ordinary income as it is capital in nature. Capital payments would ordinarily be assessable under the capital gains provisions; however, as the payment was compensation received for an injury you suffered in your occupation, any capital gain will be disregarded.

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