Edited version of private advice

Authorisation Number: 7920154344662

Date of advice: 5 May 2023

Ruling

Subject: Fringe benefit tax and capital gains tax on insurance payment for personal injury

Question 1

Is the insurance benefit received by the Taxpayer a "fringe benefit" and therefore "non-assessable non-exempt" income pursuant to subsection 23L(1) of the Income Tax Assessment Act 1936?

Answer

No

Question 2

If the insurance benefit received by the Taxpayer is not a "fringe benefit" is any capital gain liability resulting from the Taxpayer receiving the benefit disregarded under section 118-37 of the Income Tax Assessment Act 1997?

Answer

Yes

This ruling applies for the following:

20XX Income year

The scheme commenced:

In 20XX

Relevant facts and circumstances

•         The Taxpayer did not personally obtain their own Loss of Licence (LOL) insurance policy.

•         The Taxpayer relied on the employer to acquire a LOL policy as per the employment agreement'.

•         The Taxpayer provided an Agreement that explains the LOL arrangements.

•         The Taxpayer provided a copy of the 'Policy Certificate of Currency' that the employer obtained for their employees.

•         The Policy provides that the loss of an insured's pilot's licence due to bodily injury or illness would entitle the insured to a benefit in an amount dependant on the pilot's age and annual salary.

•         The Civil Aviation Safety Authority suspended the Taxpayer's (Class 1) and (Class 2) medical certificates that are required by pilots to hold a pilot's licence for medical reasons.

•         The employer made a claim on the policy.

•         The Taxpayer was entitled to a benefit due to medical reasons.

•         The amount was calculated as 2 times the Taxpayer's annual salary, in accordance with the Policy's schedule, given age at the time of injury.

•         The Taxpayer received the Benefit from the Insurer through the employer's representative.

The Taxpayers occupation as a pilot ceased. However, they continued employment for several months after receiving the Benefit.

•         The Taxpayer was informed by the employer that but for the pandemic their employment would have continued, albeit not as a Pilot.

•         The employer included the insurance premium in the Taxpayer's income statement as a Fringe Benefit for the relevant financial year.

Reasons for decision

Fringe benefits tax (FBT)

Question 1

Is the insurance benefit received by the Taxpayer a "fringe benefit" and therefore "non-assessable non-exempt" income pursuant to subsection 23L(1) of the Income Tax Assessment Act 1936?

To answer this question the following two issues, have to be considered:

Does FBT apply where an employer enters into a group policy with an insurer covering the employee(s) where the employer is the policyholder and beneficiary?

Answer: No. FBT does not apply to this type of arrangement because the benefit is provided to the employer, and not the employee or an associate of the employee.

Does FBT apply where the employer has an employment agreement with the employee(s) to provide them or their beneficiary with payment on their death or disability (like insurance coverage)?

Answer: No. FBT does not apply to this type of arrangement. We accept the benefit is excluded from being a fringe benefit.

Generally, FBT applies to various types of insurance (or insurance-like) coverage provided in connection with employment arrangements under the Fringe Benefits Tax Assessment Act 1986 (FBTAA).

When an employee enters into a contract of insurance with and insurer as policyholder and beneficiary, and their employer pays the premium or reimburses the employee for payments made to the insurer FBT applies to the arrangement as the employer is providing and expense payment fringe benefit to the employee. This also applies to circumstances where the employer enters into a group policy and is the named beneficiary because the employer is providing, via the insurer, the employee with a residual fringe benefit.

However, when the employer enters into a group policy with an insurer covering the employee where the employer is the policyholder and the beneficiary FBT will not apply as the employer, and not the employee is provided the benefit.

Issue 1 - FBT does not apply where the employer enters into a group policy with an insurer which covers the employer's employee(s) where the employer is both the policyholder and beneficiary.

FBT does not apply to this type of arrangement because the benefit is provided to the employer, and not the employee or an associate of the employee.

In this arrangement, the employer pays a premium to an insurer in exchange for the provision of insurance coverage (e.g. for death, terminal illness and accidental death and/or dismemberment) of employees of the employer.

This type of arrangement is known as 'keyperson insurance'. Taxation Ruling IT 55 Key man insurance - assess ability of proceeds and deductibility of premiums. Describes such insurance as follows:

'The term "key [person]" insurance is used in the industry to denote insurance on the life of a director, partner, employer or other "key" person associated with the taxpayer in business. The types of policies involved are whole of life, endowment, term (or temporary) life assurance, sickness and accident insurance.'

In effect, the insurance policy insures an employer against the loss of an employee's services.

As explained above, insurance cover is a 'benefit' as defined in subsection 136(1) of the FBTAA 1986.

However, under this arrangement it is the employer who is provided with the benefit of insurance coverage because they, not an employee or an associate of an employee, can make a claim on the insurance policy and receive any benefit that is payable. Therefore, while it might be said that the benefit is in respect of the employee's employment (each employee being a keyperson to the employer), the benefit is not one that is being provided to the employees, it therefore cannot constitute a 'fringe benefit' as defined in subsection 136(1).

In this arrangement, the employer may use the insurance benefit paid to it by the insurer under its group policy to fund a payment it makes to an employee, or the employee's associate. The amount of the employer's payment may also be calculated with reference to the employer's group policy, such that the insurance benefit paid to the employer and the amount of the employer's payment are equal. While appearing to be related, it is important to consider the particular terms of each policy (e.g. insurance or employment) to understand who is being provided with the benefit. The application of the FBTAA to this payment is explained below.

Issue 2 - FBT does not apply where the employer has an employment agreement with the employee to provide them or their beneficiary with payment on their death or disability (like insurance coverage).

FBT does not apply to this type of arrangement. We accept the benefit is excluded from being a fringe benefit.

In this arrangement, the employer is providing the employees or their associate with a benefit in the form of a 'contingent right' to receive a payment on the happening of the event (e.g. the employee's death or disability).

As explained above, the employer's payment on the happening of that event may be calculated with reference to the employer's group policy. As such, the insurance benefit received by the employer from its insurer and the payment an employee or their associate receives on the happening of the event may be equal.

J & G Knowles v Commissioner of Taxation [2000] FCA 196, supports the view that where this 'contingent right' is provided to the employee 'in respect of' an employee's employment, because the right is contained in the employee's employment contract, the benefit has a sufficient and material connection to an employee's employment.Furthermore, in Commissioner of Taxation v Indooroopilly Children Services (Qld) Pty Ltd [2007] and the FCAFC 1986 16, [37] the courts view is where the benefit is provided only to employees who hold a particular position with the employer, the employees to whom this benefit is provided are sufficiently identifiable. Satisfying those elements of the definition of 'fringe benefit'.

In Taxation Ruling TR 2010/6 Income tax, Pay As You Go Withholding and fringe benefits tax: tax consequences on the issue, holding and redemption of bonus units as part of an employee benefits trust arrangement, the Commissioner in TR 2010/6 [76] concludes a right granted to an employee to receive 'salary or wages' is a 'benefit' for the purposes of the FBTAA 1986; but it is not a 'fringe benefit', as defined in the of the FBTAA 1986 according to TR 2010/6, [78]. That is because according to TR 2010/6, [76], [77] it ultimately results in the employee receiving 'salary or wages' and 'the payment of "salary or wages"' is specifically excluded from being a 'fringe benefit' by paragraph 136(1)(f) of the definition of 'fringe benefit'.

TR 2010/6 provides the following explanation:

[77]. ... Broadly speaking, the scheme of the fringe benefits tax is to tax remuneration of employees derived from employment in the hands of the employer if that remuneration is not salary or wages as so defined, but to leave remuneration in the form of salary or wages to be assessed to income tax in the hands of the employee. A cash bonus paid to an employee by a person other than the employer will be 'salary or wages' and hence not a fringe benefit. It is subject to income tax.

[78]. The Commissioner does not consider the term ' payment of salary or wages' to be confined to the actual discharge of any liability on the part of the employer or another person to pay salary or wages to an employee. If entitlements to receive salary or wages constituted fringe benefits, Parliament's purpose in excluding salary or wages from fringe benefits tax would be stultified and systemic double taxation might result. Consequently, it is evident from the context and object of the FBTAA 1986 that the creation of an obligation to pay (and the corresponding entitlement to be paid) a sum of money that, when discharged, amounts to the payment of salary or wages to an individual as employee, is also incapable of being a fringe benefit. Thus, debts on account of salary and wages are not fringe benefits as defined.

In this type of arrangement, the employee is granted a contingent right which confers on them or their associate an entitlement to receive either:

•         an employment termination payment under the Income Tax Assessment Act 1997 (ITAA 1997), which is excluded from the definition of 'fringe benefit' by paragraph 136(1)(lc) of the FBTAA 1986; or

•         consideration of a capital nature for, or in respect of a personal injury to a person, which is excluded from the definition of 'fringe benefit' by paragraph 136(1)(m) of the FBTAA 1986.

According to Income Tax Ruling IT 2193 Income tax: compensation for loss of earning capacity and The Commissioner of Taxation of the Commonwealth of Australia v Slaven, Robyn Leanne [1984] FCA 17.

Given these payments are specifically excluded from being a 'fringe benefit' by paragraphs of the definition of 'fringe benefit', we accept, for the reasons given in TR 2010/6, that the contingent right, while a 'benefit' provided 'in respect of' an employee's employment is, like a right to receive a 'payment of "salary or wages"', similarly excluded from being a 'fringe benefit' for the purposes of the of the FBTAA 1986.

The tax consequences of each type of payment are briefly discussed below.

Deceased employees

For completeness, it is also noted that consistent with the TR 1999/10A Addendum, which clarifies that the fringe benefits tax system does not apply to benefits provided to relatives of deceased employees a payment to a former employee's estate due to the death of the individual is not a fringe benefit because the individual, on death, is no longer an 'employee' for the purposes of the FBTAA 1986. Therefore, a benefit, within the meaning of the of the FBTAA 1986, is not being provided to 'an employee'.

Employment termination payment (ETP)

We understand the contingent right present in this type of arrangement is most often triggered by an employee's death. Consequently, the employer makes a payment to the employee's associate (their beneficiary). Such a payment is an ETP.

An ETP is defined in section 82-130 of the ITAA 1997 to be, generally, a payment:

•         received as a consequence of employment being terminated (including as a consequence of another person's death section 80-10 of the ITAA 1997)

•         within 12 months of that employment being terminated

•         that is not specifically excluded from being an ETP by section 82-132 of the ITAA 1997.

•         is subject to income tax in accordance with Division 82 of the ITAA 1997.

Consideration of a capital nature

Alternatively, the Court in The Commissioner of Taxation of the Commonwealth of Australia v Slaven, Robyn Leanne [1984] FCA 17 said when the employee is disabled, and the employer makes a payment to them for a loss in earning capacity, it is a capital receipt; and not an ETP. This aligns with Paragraph 82-135(i) of the ITAA 1997.

Income Tax Ruling IT 2193 Income tax: compensation for loss of earning capacity confirms the decision in The Commissioner of Taxation of the Commonwealth of Australia v Slaven, Robyn Leanne [1984] FCA 17 that a payment which is compensation for the deprivation or impairment of earning capacity is a payment of capital.

Compensable work-related trauma

For completeness, it is noted a benefit constituted by a contingent right to receive benefits for compensable work-related trauma may be an exempt benefit under subsection 58J(2) of the FBTAA 1986. The contingent right may arise under a contract of insurance or otherwise.

Section 58J Exempt Benefits - Compensable work-related trauma

58J(2) [Insurance] Where:

(a) a residual benefit provided in, or in respect of, a year of tax in respect of the employment of an employee is constituted by the subsistence, during the year of tax, of a contingent right (whether arising under a contract of insurance or otherwise) to a benefit for or in respect of compensable work-related trauma suffered by the employee; and

(b) in the case of a contingent right arising under a contract of insurance - the contract of insurance does not provide for a benefit that is not for or in respect of compensable work-related trauma suffered by an employee;

the benefit is an exempt benefit in relation to the year of tax.

Paragraph 58J(2)(b) makes clear that the exemption only applies where the compensable work-related trauma is the only benefit provided under the contract.

A compensable work-related trauma is defined in subsection 136(1) to mean, broadly, an injury or disease related to the employment of an employee where the employee is entitled to receive compensation or other benefits in respect of the injury or disease under a 'workers' compensation law'.

A 'workers' compensation law' means a law that provides for compensation or other benefits for work-related trauma suffered by employees without requiring proof of any breach by the employer, or persons associated with the employer.

Where the employment agreement provides a 'contingent right' which extends beyond the scope of compensable work-related trauma, and there is no requirement that an insured loss (being life or dismemberment) has a connection with a workplace injury or incident, it is not an exempt benefit under subsection 58J(2) of the ITAA 1936.

Section 23L (1) of the Income Tax Assessment Act 1936 (ITAA 1936) provides:

'Income derived by a taxpayer by way of the provision of a fringe benefit is not assessable income and is not exempt income of the taxpayer.'

In this case the Employer was the owner and beneficiary of the Policy which provided insurance cover for the Taxpayer (and other relevant employees). As the owner of the Policy the employer was responsible for the Policy premium payments. The Taxpayer was not a party to the insurance contract and was not capable of making a claim therefore it follows they are not considered a beneficiary, FBT will not apply, and the benefit received by the Taxpayer will not be 'non-assessable non-exempt income' for the purposes of Section 23L (1) of the ITAA 1936.

Question 2

If the insurance benefit received by the Taxpayer is not a "fringe benefit" is any capital gain liability resulting from the Taxpayer receiving the benefit disregarded under section 118-37 of the Income Tax Assessment Act 1997?

Subsections 108-5 (a) and (b) of the Income Tax Assessment Act 1997 (ITAA 1997) provides:

A CGT asset is:

a)    any kind of property; or

b)    a legal or equitable right that is not property.

For income tax purposes, a compensation amount generally bears the character of that which it is designed to replace. In Taxation Ruling TR 95/35 Income tax: capital gains: treatment of compensation receipts discusses the CGT implications for compensation receipts.

TR 95/35 discusses the following:

•         disposal of the underlying asset,

•         compensation for permanent damage to, or permanent reduction in value of, the underlying asset, and

•         disposal of the right to seek compensation.

CGT Exemption for personal wrong or injury TR 95/35

19. Compensation received by an individual for any wrong or injury suffered to his or her person or in his or her profession or vocation is exempt from CGT under subsection 160ZB(1). Refer to Examples 14 to 17 in this Ruling.

20. Exemption under subsection 160ZB(1) is available if the taxpayer receives compensation in an undissected lump sum which relates wholly to the personal wrong or injury suffered by the taxpayer. Refer to Example 17 in this Ruling.

According to FCT v. Slaven (1984) 52 ALR 81; 15 ATR 242; 84 ATC 4077 it is the character of the receipt in the hands of the recipient that must be determined. This position is supported by Glenboig Union Fireclay Co Ltd v. IR Commrs (1921) 12 TC 427. Generally, the material factor in determining whether compensation is of an income or capital nature is not the measure of the compensation, but what it is truly paid for.

In determining, which is the most relevant asset, it is often appropriate to adopt a 'look-through' approach to the transaction or arrangement which generates the compensation receipt. We regard this concept as the most appropriate basis on which to determine whether any capital gain arises on the disposal of any asset of the taxpayer.

In cases where a dispute between the insurer and the insured is settled by way of the former making a lump sum payment to the latter; it would presumably be the case that the payment is intended to compensate the policy holder for the loss of entitlements under the policy, rather than to compensate the person for their injury or illness or wrong suffered as such.

Taxation Ruling IT 2230 Income tax: loss of licence insurance relates to a situation where the taxpayers had paid premiums in relation to the loss of licence insurance policies which provide for the payment of periodic benefits of income nature as well as benefits of a capital nature. It outlines that in situations where the benefits are a payment of a capital sum for the loss of the contributor's asset, the CGT asset was the licence to fly.

In Case 67 (1977) 21 CTR (NS), a pilot was not entitled to deduct any part of the premium paid under a "loss of licence" insurance policy, where the benefit payable was a lump sum for the permanent loss of the licence, being the capital asset.

CGT event C2

Under subsection 104-25(1) of the ITAA 1997, a CGT event C2 happens if a taxpayer's ownership of an intangible CGT asset ends by the asset:

•         being redeemed or cancelled

•         being released, discharged or satisfied

•         expiring (see below)

•         being abandoned, surrendered or forfeited

•         if the asset is an option - being exercised

•         if the asset is a convertible interest - being converted.

Application to the Taxpayers situation

In the Taxpayers circumstances the employer under the 'Pilots' Enterprise Agreement' (the Agreement) included a Loss of Licence (LOL) insurance policy as part of the pilot's employment package. It is considered that; the insurance policy insures the employer against the loss of an employee's services. As explained above, insurance cover is a 'benefit' as defined in subsection 136(1) of the FBTAA 1986.

However, under this arrangement it is the employer who is provided with the benefit of insurance coverage because they, not an employee or an associate of an employee, can make a claim on the insurance policy and receive any benefit that is payable. The employee is the only party that can make a claim under the policy (albeit in respect of a specified employee), it is thereby the beneficiary of the policy by virtue of being a party to the insurance contract.

The Taxpayer had a medical issue that prevented them from providing their services to the employer, the employer as the only party to the policy able to do so made a claim against the insurer for payment of the Benefit under the Policy because the Taxpayers Class 1 Medical Certificate was cancelled as a result of an injury.

Based on the information provided, and in accordance with the principles contained in IT 2230, the CGT asset was the Taxpayers licence to fly, by virtue of having a Class 1 Medical Certificate and therefore, a CGT event C2 occurred when the Class 1 Medical Certificate was cancelled in March 2020.

Section 118-37 Compensation, damages etc.

118-37(1)

A capital gain or capital loss you make from a CGT event relating directly to any of these is disregarded:

a)    compensation or damages you receive for:

                                                      i.        any wrong or injury you suffer in your occupation; or

                                                     ii.        any wrong, injury or illness you or your relative suffers personally.

Payments received under the policy are legal compensation related to a CGT event C2 and are therefore considered capital receipts, with any resulting capital gain made from the event ordinarily assessed under the capital gains tax provisions. However, as the payments relate to compensation received for personal injury suffered by the Taxpayer, any capital gain made from the receipt of compensation monies in the hands of the Taxpayer will be disregarded under section 118-37 of the ITAA 1997.

As the compensation amount the Taxpayer receive is not assessable as either ordinary income or statutory income, no part of it is included in the assessable income.

Relevant legislative provisions

ATO Views

•         Taxation Ruling IT 155 Key man insurance - assessability of proceeds and deductibility of premiums.

•         Taxation Ruling IT 2193 Income tax: compensation for loss of earning capacity.

•         Taxation Ruling IT 2230 Income tax: loss of licence insurance

•         Taxation Ruling TR 1995/35 Income tax: capital gains: treatment of compensation receipts

•         Taxation Ruling TR 1999/10 Income tax and fringe benefits tax: Members of Parliament - allowances, reimbursements, donations and gifts, benefits, deductions and recoupments.

•         Taxation Ruling TR 1999/10A - Addendum Income tax and fringe benefits tax: Members of Parliament - allowances, reimbursements, donations and gifts, benefits, deductions and recoupments.

•         Taxation Ruling TR 2010/6 Income tax, Pay As You Go Withholding and fringe benefits tax: tax consequences on the issue, holding and redemption of bonus units as part of an employee benefits trust arrangement.

•         Class Ruling CR 2004/113 Fringe benefits tax and income tax: payments by Employer members of Construction Income Protection Ltd for worker income protection and portable sick leave insurance policies.

•         Class Ruling CR 2005/103 Fringe benefits tax and income tax: payments by Employer members of IPT Co Ltd for income protection and trauma insurance policies.

Relevant legislative provisions

•         Division 82 of the Income Tax Assessment Act 1997

•         Section 6-5 of the Income Tax Assessment Act 1997

•         Section 82-130 of the Income Tax Assessment Act 1997

•         Subsection 82-130(1) of the Income Tax Assessment Act 1997

•         Paragraph 82-130(1)(a) of the Income Tax Assessment Act 1997

•         Paragraph 82-130(1)(b) of the Income Tax Assessment Act 1997

•         Paragraph 82-130(1)(c) of the Income Tax Assessment Act 1997

•         Paragraph 118-37(1)(a) of the Income Tax Assessment Act 1997

•         Section 82-135 of the Income Tax Assessment Act 1997

•         Section 855-10 of the Income Tax Assessment Act 1997

•         Section 995-1 of the Income Tax Assessment Act 1997

•         Division 12 of the Fringe Benefits Tax Assessment Act 1986

•         Section 20 of the Fringe Benefits Tax Assessment Act 1986

•         Section 42 of the Fringe Benefits Tax Assessment Act 1986

•         Section 51 of the Fringe Benefits Tax Assessment Act 1986

•         Section 20 of the Fringe Benefits Tax Assessment Act 1986

•         Section 58J of the Fringe Benefits Tax Assessment Act 1986

•         Section 136 of the Fringe Benefits Tax Assessment Act 1986

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