Edited version of private advice

Authorisation Number: 1012684221010

Ruling

Subject: Compensation payment

Questions and answers:

1. Will the compensation you received for injuries resulting from a fall be included in your assessable income?

No.

2. Will any capital gain or loss resulting from your compensation be ignored?

Yes.

This ruling applies for the following period:

Year ended 30 June 2014

The scheme commenced on:

1 July 2013

Relevant facts and circumstances:

You were involved in a fall at a leisure location.

As a result of this accident you sustained personal injuries.

You lodged a personal injuries claim as a result of your accident.

Your claim was for pain and suffering.

You were awarded compensation but were not provided with a breakdown for this payment.

The insurance agents made a one-off offer to you on their behalf in full satisfaction of all actions, proceedings, claims, and demands for damages, costs, interest or expenses now or in the future.

You accepted this offer and signed a deed of release document.

There is no dissection of the compensation amount.

You were required to re-pay Centrelink out of your compensation.

Relevant legislation 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 15-30.

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 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 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 arises from the pain, suffering and medical treatment required resulting from the injury, rather than from a relationship to personal services performed.

A compensation amount generally bears the character of that which it is designed to replace. If the compensation is paid for the loss of a capital asset or amount then it will be regarded as a capital receipt and not ordinary income.

As a result of legal action, you have now received a non dissected lump sum payment which has been made to replace amounts of both an income and capital nature. As such it is necessary to consider whether the payment could be dissected into assessable and non-assessable components.

McLaurin v. Federal Commissioner of Taxation (1961) 104 CLR 381; (1961) 12 ATD 273; (1961) 8 AITR 180 and subsequently Allsop v. Federal Commissioner of Taxation (1965) 113 CLR 341; (1965) 14 ATD 62; (1965) 9 AITR 724 raised the proposition that where a lump sum compensation payment can be dissected into its constituent income and capital components, the income components may be assessable. The Commissioner confirmed this view in Taxation Determination TD 93/58 and indicated that any part of a lump sum compensation amount will only be assessable as ordinary income:

(a) if the payment is compensation for loss of income only…; or

(b) to the extent that a portion of the lump sum is identifiable and quantifiable as income. This is possible where the parties either expressly or impliedly agree that a certain portion of the payment relates to a loss of an income nature.

Consequently, where a taxpayer receives a non dissected lump sum which includes assessable and non-assessable components that cannot be identified or quantified, the whole of the lump sum amount is treated as a non-assessable receipt.

The lump sum payment was made to compensate you for pain and suffering and to surrender your right to seek any past, present or future claims against the company. There is no identifiable or quantifiable component of the lump sum payment.

As the lump sum payment comprises compensation for a mixture of income and capital items and the payment cannot be dissected into its constituent parts, the whole amount is deemed to be of a capital nature. Therefore, the lump sum amount is no assessable income under section 6-5 of the ITAA 1997.

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 about assessable income. Included in this list is section 102-5 of the ITAA 1997 which deals with capital gains.

Section 15-30 of the ITAA 1997 operates to include in a taxpayer's assessable income any amount received by way of insurance or indemnity for the loss of an amount if the lost amount would have been included in the taxpayer's assessable income but was not assessable under section 6-5 of the ITAA 1997.

The compensation amount paid to you would not have been included in your assessable income and therefore section 15-30 of the ITAA 1997 will have no application.

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 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 received by you is not in respect of any underlying asset, the whole of the settlement amount is treated as capital proceeds from a capital gains tax (CGT) event (CGT event C2) 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 ... suffer personally'.

In conclusion, the lump sum payment you received for injuries resulting from a fall is not assessable either as income or as capital gains and you are not, required to include it in your income tax return.