Edited version of your written advice

Authorisation Number: 1012906587006

Date of advice: 11 November 2015

Ruling

Subject: Compensation payment

Question

Is a compensation payment received because of defective administration regarded as assessable income?

Answer

Yes.

This ruling applies for the following periods:

Year ended 30 June 20XX

Year ended 30 June 20XX

Year ended 30 June 20XX

Year ended 30 June 20XX

The scheme commenced on:

1 July 20XX

Relevant facts and circumstances

You are an Australian resident.

You were in receipt of the Age Pension.

You decided to return to work after retiring.

Your pension payment was cancelled at your request when you returned to work.

You were not informed that you may have still been eligible for a part pension by the Centrelink staff at the time you requested your pension be cancelled.

When you reclaimed your pension in 20XX, you requested payment of pension arrears from the time you cancelled your pension in 20XX.

Under Social Security legislation, payment of arrears for that period could not be paid.

A review officer at Centrelink submitted a claim for compensation on your behalf, based on defective administration.

The claim was for the full amount of your pension entitlement for the relevant period.

The result of this claim was that you entered into a Deed of Release, agreeing to a compensation payment, calculated at 50% of your pension entitlement as claimed.

Relevant legislative provisions

Income Tax Assessment Act 1997 Subsection 6-5(2)

Income Tax Assessment Act 1936 section 159ZRA

Reasons for decision

Subsection 6-5(2) 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.

An amount paid to compensate for loss generally acquires the character of that for which it is substituted. 

Taxation Determination TD 93/58 explains that lump sum compensation is assessable income to the extent that it is identifiable and quantifiable as income. This will be possible where the parties either expressly or impliedly agree that a payment relates to a loss of an income nature. 

In your case, you received a defective administration compensation payment from the department of Human Services (DHS) because of lack of advice provided to you in respect to your eligibility for the Age Pension at the time you recommenced employment.

The compensation payment was based on your lost benefits for the relevant period. Although only 50% of your loss was received, it remains that the payment helped compensate you for the loss of income you suffered.

The compensation payment has the character of assessable income because it replaces income from this source. 

Therefore, the lump sum compensation payment you received for defective administration, is assessable income under section 6-5(2) of the ITAA 1997 and must be included as such in your tax return in the year of receipt.

Additional Information - Lump Sum Payment in Arrears Tax Offset

An individual taxpayer who receives a lump sum payment containing an amount that accrued in an earlier income year or earlier income years may be entitled to a tax offset under section 159ZRA of the Income Tax Assessment Act 1936 (ITAA 1936). This tax offset is known as a lump sum payment in arrears tax offset.

The tax offset is designed to alleviate the problem of more tax being payable in the income year in which the lump sum is received than would have been payable if the lump sum had been taxed in each of the income years in which it accrued.