Edited version of your written advice

Authorisation Number: 1013072677247

Date of advice: 17 August 2016

Ruling

Subject: The assessability of your compensation payment

Question

Is the lump sum settlement payment to you regarded as ordinary assessable income?

Answer

Yes

This ruling applies for the following period:

Year ended 30 June 2017

The scheme commenced on

1 July 2016

Relevant facts and circumstances

This ruling is based on the facts stated in the description of the scheme that is set out below. If your circumstances are materially different from these facts, this ruling has no effect and you cannot rely on it. The fact sheet has more information about relying on your private ruling.

You suffered injuries in the course of and/or arising from your employment with a Government entity.

You submitted a claim for compensation for the injury pursuant a Return to Work Act (RTWA).

A State insurance office was the workers' compensation insurer for the employer at the time of the injury.

Liability for the claim was accepted by the insurer for and on behalf of the employer.

You have been receiving weekly compensation payments for a number of years.

You have been offered to settle your claim from the Government entity for a lump sum payment.

A section of the Deed of Agreement states that your right to compensation under the Act is not extinguished.

A section of the deed of agreement states that will cease to provide any further periodic compensation and/or payments to you in respect of the injury and the claim.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 6-5

Income Tax Assessment Act 1997 Section 6-10.

Detailed reasoning

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 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 form, 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.

Payments which are paid to take the place of loss of salary and wages income are income according to ordinary concepts and are included in your assessable income.

An amount paid to compensate for loss generally acquires the character of that for which it is substituted (FC of T v. Dixon (1952) 86 CLR 540; (1952) 5 ATR 443;10 ATD 82). Compensation payments which substitute income have been held by the courts to be income according to ordinary concepts (FC of T v. Inkster 89 ATC 5142; (1989) 20 ATR 1516 and Tinkler v. FC of T 79 ATC 4641; (1979) 10 ATR 411).

Therefore periodic payments received during a compensatory period are included in your assessable income on the same principle as salary and wages.

Lump sum payments

Whether the redemption or conversion of an entitlement to periodic payments to a lump sum affects assessability as ordinary income was considered in Coward v. FC of T 99 ATC 2166; (1999) 41 ATR 1138. In that case Mathews J found that payments made to replace income take on the character of the payment they replace and that the method of payment does not alter the character of the payment. Mathews J held that as the weekly compensation payments made to the appellant until he turned 65 were paid for loss of earnings and thus constituted income, a lump sum representing a, redemption, of those future weekly payments was also income.

This view was subsequently confirmed in Sommer v FC of T 2002 ATC 4815; 51 ATR 102 (Sommer's case). The case involved a medical practitioner who had taken out an income protection policy. Following the rejection of the taxpayer's claim for income replacement payments of $4,000 per month, the matter was settled out of court with the taxpayer receiving a lump sum. The taxpayer argued that the amount was a payment of capital as it was paid in the consideration of the cancellation of the policy, and the surrender of his rights under it or that the payment was capital as it was an un-dissected aggregation of both income and capital.

In dismissing the taxpayer's appeal it was held that the payment was in settlement of income claims of the taxpayer in circumstances where the purpose of the insurance policy was to fill the place of a revenue receipt. As a result, the payment was clearly on a revenue account. The fact that the payment was received in one lump sum did not change its revenue character.

In your case you were receiving regular workers' compensation payments. You have now been offered a lump sum payment.

As stated in the deed of agreement your employer will cease to provide any further periodic compensation payments to you in respect of the injury and the claim. That is, the lump sum payment will effectively replace the periodic income which was being paid to you.

Your situation is similar to the above cases as the lump sum you will receive will be redemption of your entitlement to periodic payment.

The commutation of the monthly payments into a lump sum does not change its character of compensation for loss of income. The lump sum is a receipt of income only, that is, there is no capital component in the payment.

As stated in the deed of agreement your right to compensation under the Act is not extinguished.

Therefore, the lump sum payment you will receive from the insurer is an advance of your future monthly payments and is assessable under section 6-5 of the ITAA 1997 as ordinary income in the year it is received.

The capital gains tax (CGT) provisions do not apply to the lump sum finalisation payment as it is otherwise included in your assessable income, as ordinary income.