Edited version of your written advice

Authorisation Number: 1013001018310

Date of advice: 27 April 2016

Ruling

Subject: The assessability of your compensation payment

Question

Is a compensation payment made to you for non-economic loss regarded as assessable income?

Answer

No

This ruling applies for the following period

Year ended 30 June 20XX

The scheme commences on

1 July 20XX

Relevant facts and circumstances

You commenced full time employment with a Government department some years ago. During your employment you suffered from psychological injury due to bullying and harassment in the workplace by your supervisor.

You were then required by your employer to be independently assessed by a psychiatrist.

Over the next several years you were then shifted to different areas of your workplace, had work performance assessments carried out, and had many psychiatric evaluations and recommendations.

At a later stage you formally lodged a claim for anxiety and depression arising from your employment. Your employment was later terminated.

You lodged a claim for compensation under the scheme for Compensation for Detriment caused by Defective Administration (CDDA) with the Government department.

You claimed that you sustained personal injury and economic loss as a result of the defective administration of the Government department.

Your previous employer has offered to pay you an amount as compensation for non-economic loss.

Relevant legislative provisions

Income Tax Assessment Act 1997 Subsection 6-5

Income Tax Assessment Act 1997 Subsection 6-15(1)

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

Reasons for decision

Ordinary income

Subsection 6-5(2) of the Income Tax Assessment Act 1997 (ITAA 1997) provides that the assessable income of an Australian resident includes the ordinary income they derived directly or indirectly from all sources, whether in or out of Australia, 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, and

• have an element of periodicity, recurrence or regularity.

For income tax purposes, an amount paid to compensate for a loss generally acquires the character of that for which it is substituted (Federal Commissioner of Taxation v. Dixon (1952) 86 CLR 540; (1952) 5 AITR 443; 10 ATD 82).

Compensation payments which substitute income have been held by the courts to be income under ordinary concepts (Federal Commissioner of Taxation v. Inkster (1989) 24 FCR 53; (1989) 20 ATR 1516; 89 ATC 5142, Tinkler v. FC of T (1979) 10 ATR 411; 79 ATC 4641, and Case Y47 (1991) 22 ATR 3422; 91 ATC 433).

Taxation Determination TD 93/58 explains the circumstances in which a lump sum compensation/settlement payment is assessable, and states that such a payment is assessable income:

• if the payment is compensation for loss of income only (even when the basis of the calculation of the lump sum cannot be determined), or

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

You have been offered compensation for non-economic loss.

The compensation payment is not earned by you as it does not relate to services performed or income from carrying on a business. 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 defective administration, rather than from a relationship to personal services performed.

The payment for defective administration is not regarded as income in nature. It is considered that no component of the amount you received was received to compensate you for loss of income. Therefore, your compensation is not assessable under section 6-5 of the ITAA 1997.

Capital gains tax

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.

Receipt of a lump sum payment may give rise to a capital gain (statutory income). However paragraph 118-37(1)(b) of the ITAA 1997 disregards payment or receipts for capital gains purposes where the amount relates to compensation or damages a person receives for any personal wrong, injury or illness. The lump sum you will receive is considered to be exempt from CGT under paragraph 118-37(1) (b).

Conclusion

Subsection 6-15(1) of the ITAA 1997 provides that if an amount is not ordinary or statutory income it is not assessable income. Therefore no part of the settlement amount is required to be included in your income tax return.