Edited version of your private ruling

Authorisation Number: 1012605757064

Ruling

Subject: Lump sum compensation payments

Question 1

Is the amount you received for a permanent impairment assessment assessable income?

Answer

No

Question 2

Is the lump sum compensation payment you received assessable income?

Answer

No

This ruling applies for the following periods

Year ended 30 June 2013

Year ended 30 June 2014

The scheme commences on

1 July 2012

Relevant facts and circumstances

You were involved in an accident which resulted in you having permanent impairment.

You received a replacement of income for a period of time while you were unable to work. Tax has been paid on these wages.

You received an amount for a permanent impairment assessment.

You received an amount for total settlement.

The total settlement was dispersed as follows:

• An amount to a third party to reimburse them for the replacement of income and permanent impairment assessment paid to you.

• An amount to your solicitors

• The remaining figure was paid into your account

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 10-5

Income Tax Assessment Act 1997 Section 102-5

Income Tax Assessment Act 1997 Paragraph 118-37(1)(b)

Reasons for decision

Section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997) provides that the assessable income of a resident taxpayer includes ordinary income derived directly or indirectly from all sources 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

• have an element of periodicity, recurrence or regularity.

The lump sum payment for permanent impairment was not earned by you as it does not directly relate to services performed. Rather the lump sum relates to the loss of physical abilities. The payment is 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 arises from the investment in insurance, rather than from a relationship with personal services performed.

The undissected lump sum payment from the insurer is also not earned by you, is for loss of physical abilities is one-off and the expectation of payment arises from an investment in insurance.

In relation to an undissected lump sum Taxation Determination TD 93/58 Income tax: under what circumstances is the receipt of a lump sum compensation/settlement payment assessable? advises that where a taxpayer receives an undissected lump sum which includes both income and capital elements which cannot be identified or quantified, the whole of the lump sum is treated as a capital amount.

Compensation receipts which substitute for income have been held by the courts to be income under ordinary concepts. However, no component of the amount you received was received to compensate for loss of income. Any portion relating to past or future economic loss is compensation for loss of earning capacity (a capital asset) rather than for actual loss of income.

Accordingly, no part of the lump sum compensation payments will be assessable under section 6-5 of the ITAA 1997.

Capital gains tax arising from the compensation payments

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 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 provisions of the ITAA 1997.

Taxation Ruling TR 95/35 Income tax: capital gains: treatment of compensation receipts (TR 95/35) deals with the capital gains treatment of compensation receipts. The ruling advocates a 'look-through' approach, which identifies the most relevant asset to which the compensation amount is most directly related. Paragraph 11 of TR 95/35 states that if an amount is not received in respect of an underlying asset, the amount relates to the disposal by the taxpayer of the right to seek compensation.

As the amount you received is not in respect of any underlying asset, the whole of the settlement amount is treated as capital proceeds from a CGT event happening to your right to seek compensation.

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 or your relative suffers personally'.

In your case, you will not be subject to capital gains tax in respect of the amounts you received to compensate you for the permanent injuries you received in your accident.