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Edited version of your written advice
Authorisation Number: 1012932357250
Date of advice: 8 January 2016
Ruling
Subject: Assessable income - Loan repayment
Question 1
Does section 6-1 apply to tax the proceeds, less the principal, as ordinary assessable income?
Answer
Yes.
Question 2
Does CGT event C2 apply to treat the proceeds as taxable under CGT rules?
Answer
No.
Question 3
Does Taxation Ruling TR 2002/4 apply to make the indemnification amount assessable?
Answer
Yes
This ruling applies for the following periods:
Year ended 30 June 20ZZ
The scheme commences on:
1 July 20XX
Relevant facts and circumstances
In 19XX, you lent a sum to a family member.
The loan took the form of a registered mortgage that was secured over the family member's family home.
The amount was sourced from your home loan. Your home loan has now been paid in full.
No repayments were made for the loan by the family member and no repayments were requested.
The family member has developed a medical condition and is in care.
The family sold your family member's home in order to pay for this care.
The home was sold in 20ZZ.
The proceeds of sale were applied to repay various debts.
In 20ZZ you received an increased amount of payment in settlement of your loan.
The parties agreed that the settlement funds comprised loan principal and accumulated charges, gross up for estimated tax, and estimated legal fees.
Relevant legislative provisions
Income Tax Assessment Act 1997 Subsection 6-5
Income Tax Assessment Act 1997 Section 6-10
Reasons for decision
Question 1
Subsection 6-5(2) of the Income Tax Assessment Act 1997 (ITAA 1997) provides that the assessable income of a resident taxpayer includes the ordinary income derived directly or indirectly from all sources, whether in or out of Australia, during the income year.
Generally speaking, a receipt will be income according to ordinary concepts if it is a receipt arising out of a taxpayer's employment or business activities.
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.
In your case, a loan that you made to your parent has been repaid to you.
The amount of repayment of a loan would be considered to be a receipt of a capital sum. The repayment is neither ordinary income as defined in section 6-5 of the ITAA 1997 nor is it statutory income as defined in section 6-10 of the ITAA 1997.
Accordingly the amount of the repaid loan is not assessable income.
The funds received in addition to the repayment of the principal totalling $X comprised accumulated charges, estimated tax and legal fees.
Interest income is regarded as ordinary income and therefore assessable under subsection 6-5(2) of the ITAA 1997.
The amount is considered to be ordinary assessable income under section 6-1 of the ITAA 1997.
Question 2
As the funds are considered to be ordinary assessable income, they are not deemed to be capital in nature. As there is no CGT event, the proceeds are not taxable under CGT rules.
Question 3
TR 2002/4 applies to amounts paid as an indemnification of tax under an indemnification of tax clause in a cross-border loan agreement or associated with a cross-border loan agreement. In your case, there are no cross border loan agreement implications; however, the general principles can still be applied.
TR 2002/4 advises that any indemnification payments are treated as ordinary assessable income. You have provided a mortgage document which includes a clause indemnifying you for all interest and other charges incurred.
Where the lender carries on a business of lending and the loan is made in the course of the lender's business the Commissioner is of the view that indemnification amounts paid to a lender under an indemnification of tax clause will be ordinary income in the hands of the lender under section 6-5 of the ITAA 1997
Paragraph 18 of TR 2002/4 states that even where the loan is not made in the ordinary course of the lender's business, the reasoning of the High Court in Myer Emporium indicates that the indemnification amount may still be income in the hands of the lender. It will be necessary to look at the circumstances of each case, but the inference prima facie will be that the taxpayer's intention or purpose in requiring the borrower to indemnify the liability of the lender to withholding tax was to make a profit or gain of the amount of that indemnification.
In your case, you were not in the business of lending money. The inclusion of the clause in the mortgage to indemnify your liability for withholding taxes shows the purpose was to make a profit or gain from the loan transaction. As indemnification payments are treated as ordinary assessable income, the amount identified as the gross up for estimated tax is treated as assessable income.