Edited version of private ruling

Authorisation Number: 1011844718071

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Ruling

Subject: Compensation payment

Question 1

Do you have to pay tax on the one off lump sum payout that you received as compensation for your pain and suffering?

Answer

No.

Question 2

Is the income derived from the investment of the one off lump sum compensation payout subject to tax?

Answer

Yes.

This ruling applies for the following periods:

Year ended 30 June 2010

Year ended 30 June 2011

The scheme commences on:

1 July 2009

Relevant facts and circumstances

You were involved in an accident.

You received a one off lump sum compensation payout for your pain and suffering.

A portion of your compensation payout was paid to a government authority.

The remainder of your compensation payout was placed into a trust's bank account.

You are the sole beneficiary of this trust.

Relevant legislative provisions

Income Tax Assessment Act 1936 Section 97,

Income Tax Assessment Act 1997 Section 6-5,

Income Tax Assessment Act 1997 Section 6-10,

Income Tax Assessment Act 1997 Section 10-5,

Income Tax Assessment Act 1997 Section 102-5,

Income Tax Assessment Act 1997 Section 118-37.

Reasons for decision

Summary

The one off lump sum compensation payout that you received is non-assessable; however any income you subsequently earn from these funds is considered to be assessable income and therefore subject to tax.

Detailed reasoning

Ordinary Income

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).

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.

The lump sum that you received was not earned 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 arises from the pain and suffering as a result of your injuries, rather than from a relationship to personal services performed.

It should be noted that compensation receipts which substitute for income have been held by the courts to be income under ordinary concepts. However, no component of the amount received was to compensate you for the loss of income.

Accordingly, the lump sum payment that you received is not ordinary income and is therefore not assessable under section 6-5 of the ITAA 1997.

Statutory Income

Section 6-10 of the ITAA 1997 provides that a taxpayer's assessable income includes statutory income amounts that are not ordinary income but are included in assessable income by another provision.

Section 10-5 of the ITAA 1997 lists those provisions. Included in this list is section 102-5 of the ITAA 1997 which deals with capital gains.

Amounts received in respect of personal injury which is not for reimbursement of medical expenses, or direct compensation for loss of income will usually be capital in nature and are potentially taxable as statutory income under the capital gains tax (CGT) provisions of the ITAA 1997.

However, paragraph 118-37(1)(b) of the ITAA 1997 disregards a capital gain made from a CGT event where the amount relates to compensation or damages received for any 'wrong, injury or illness you ... suffer personally'.

Accordingly the lump sum payment, for your pain and suffering, is not assessable under section 6-10 of the ITAA 1997.

Trust distributions

Section 97 of the Income Tax Assessment Act 1936 provides that an Australian resident beneficiary who is presently entitled to a share of the income of a trust estate is assessed on their share of the trust estate's net income.

In your case you were involved in an accident and received a compensation payout for your pain and suffering. A portion of your compensation was paid to a government authority; however the remainder was placed into a trust's bank account, of which you are the sole beneficiary and as such entitled to any income that is derived.

It is only the initial receipt of your one off lump sum compensation payout that is not considered to be income. Once your compensation payout was deposited into the trust's bank account, any interest earned from these funds is considered to be income.

Also, with regards to the garnished funds, there are no special rules that make the interest or any other earning from the compensation payout non-assessable income.

Therefore, any income that is derived by the trust will have to be included in your assessable income.