Edited version of private ruling

Authorisation Number: 1011485722742

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Ruling

Subject: Assessability of compensation payment

1. Is the lump sum amount that you have received assessable as ordinary income?

No.

2. Can you disregard any capital gain or loss that has resulted from the payment that you received?

No.

This ruling applies for the following period

Year ended 30 June 2010

The scheme commenced on

1 July 2009

Relevant facts

You met with a financial adviser about your superannuation.

During this meeting you were given investment advice from the financial adviser that was implemented.

As a result of this investment strategy you incurred a loss.

You sought the advice from another financial planner, who after investigation found that the advice that you had been given by your previous financial planner was inappropriate for your circumstances. In addition, it was found that the initial adviser had invested your money into high risk shares despite you being identified as a balanced investor.

You were advised you to lodge a complaint with the Financial Ombudsman Service.

After negotiation, you were offered an undissected settlement amount.

The conditions of the settlement include the resolution that your previous financial planner would make a settlement payment with a denial of liability in order to resolve all aspects of your claim including the right to make any further demands or take any further actions or proceedings, with regards to this matter.

You accepted the settlement.

The payment is to be deposited directly into your superannuation fund.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 6-5.

Income Tax Assessment Act 1997 Section 6-10.

Income Tax Assessment Act 1997 Section 102-5.

Income Tax Assessment Act 1997 Section 104-25.

Reasons for decision

Section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997) provides that the assessable income of a taxpayer includes income according to ordinary concepts (ordinary income).

Based on case law, it can be said that ordinary income generally includes receipts that:

· are earned

· are expected

· are relied upon, and

· have an element of periodicity, recurrence or regularity.

In your situation the payment that you received from your previous financial manager was in lieu of a claim for a breach of duty of care of a financial adviser in relation to investment advice. The payment was not earned by you as it does not relate to services performed. The payment is also a one off payment and thus it 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 a relationship to personal services performed.

Accordingly, the payment is not ordinary income and is therefore not assessable under section 6-5 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. Capital gains are included as assessable income under section 102-5 of the ITAA 1997.

Capital gains

You make a capital gain when a capital gains tax (CGT) event occurs and the capital proceeds from the disposal of the CGT asset are more than the cost base of the CGT asset.

Taxation Ruling TR 95/35

Taxation Ruling TR 95/35 deals with the tax treatment of compensation receipts, and recommends a look through approach in identifying the most relevant asset in respect of which compensation has been received. Where there is no relevant underlying asset, the ruling advocates considering whether a CGT event happened to the right to seek compensation.

In your case, you had no relevant underlying asset in respect of which the compensation was received. The financial loss arose as a result of the actions of your financial adviser providing inappropriate advice and not following your instructions in regards to investing in high risk shares. Therefore, the relevant asset is the right to seek compensation.

Right to seek compensation

CGT event C2 occurs when you enter into a contract that results in an asset ending, including the right to seek compensation.

In your case a CGT event happened (CGT event C2) when your ownership of the right to seek compensation ended by being released, satisfied or surrendered. This occurred when you surrendered the right to make any further demands or take any further actions or proceedings, with regards to this matter. The compensation payment received is the capital proceeds received in respect of the CGT event.

Summary

You have entered into a settlement agreement whereby you received a compensation payment in exchange for surrendering your right to seek any further demands or take any further actions or proceedings. This money is not ordinary income but is assessable as a capital gain (CGT event C2).

Additional Information

Cost base

The cost base of the right to seek compensation is determined in accordance with the provisions of section 110-25 of the ITAA 1997.

Paragraph 104 of TR 95/35 states if the right to seek compensation arises in respect of a monetary loss of the taxpayer, the amount of that loss is included in the cost base of the right to seek compensation.

Furthermore, paragraph 169 of TR 95/35 states that the cost base of the asset is the sum of money and the market value of any property given as consideration for the creation of the asset. This would include any legal expenses incurred in respect of pursuing your right to seek compensation, that is, legal expenses that relate specifically to your proceedings.