Edited version of your written advice

Authorisation Number: 1051308216398

Date of advice: 16 November 2017

Ruling

Subject: Compensation payment

Question 1

Is the one off payment from entity A assessable as ordinary income?

Answer

No.

Question 2

Is part of the payment from entity A capital proceeds for capital gains tax purposes?

Answer

Yes.

Question 3

Is the other part of the payment assessable as ordinary or statutory income?

Answer

No.

This ruling applies for the following period

Income year ended 30 June 2016

The scheme commences on

1 July 2015

Relevant facts and circumstances

You live on a property.

You have an item on your property which you receive rent on a monthly basis.

You received money from entity A made up of:

(a) compensation for the offset area; and

(b) an amount for relocation of your water tank.

The one-off payment also covers the ongoing maintenance of the offset area and entity A has no further obligations in relation to the offset area.

The payment was made by entity A at the commencement of construction on your premises in consideration of you executing and returning the lease of the premises to entity A for registration.

You are unable to use this part of the land.

The associated plan under the relevant legislation applies to this land.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 6-5

Income Tax Assessment Act 1997 section 6-10

Income Tax Assessment Act 1997 section 102-20

Income Tax Assessment Act 1997 section 108-5

Income Tax Assessment Act 1997 section 20-20

Income Tax Assessment Act 1997 section 20-25

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).

On the other hand, 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.

The compensation payment you received is not earned by you as it does not relate to services performed or from carrying on a business. Although the compensation relates to your property, the payment is not akin to rent. Rather the compensation is being received in relation to the item on your property and the limited use of this part of your land. Although the payment can be said to be expected, and perhaps relied upon, this expectation does not arise from any personal services performed. The compensation payment is capital in nature. Accordingly, it is not regarded as ordinary income and is therefore not assessable under subsection 6-5(2) of the ITAA 1997.

Statutory income

Statutory income is not ordinary income, but is included in assessable income by specific provisions of the income tax law (section 6-10 of the ITAA 1997).

These specific provisions are listed in section 10-5 of the ITAA 1997 and include capital gains, which are included in assessable income by virtue of the capital gains tax (CGT) provisions.

Capital gains tax provisions

CGT is the tax you pay on certain gains you make. Section 102-20 of the ITAA 1997 states that a capital gain or capital loss is made only if a CGT event happens. For most CGT events, your capital gain is the difference between your capital proceeds and the cost base of your CGT asset.

Section 108-5 of the ITAA 1997 provides that a CGT asset is any kind of property, or a legal or equitable right that is not property.

Taxation Ruling TR 97/3 Income tax: capital gains: compensation received by landowners from public authorities provides the Commissioner’s view on the capital gains tax consequences of compensation received by landowners which imposes a limitation on the owner’s use of the land. As outlined in paragraph 13, such compensation payments relate to a loss of some of the rights of ownership of the land. The compensation is treated as consideration in respect of the disposal of those rights, that is, in respect of a part disposal of the underlying land.

In your case, you have received money in relation to the land used by entity A for the item on your property.

Generally speaking a capital gain or loss in relation to your main residence is disregarded. However, the maximum area of adjacent land for the main residence exemption is two hectares less the area of land immediately under the dwelling.

As you are not selling your main residence, any capital gain or loss in relation to the payment is not disregarded.

As a CGT event has occurred in relation to the portion of your land, you need to calculate your capital gain or loss. If you don’t have a valuation for the relevant area of land used by entity A, you can calculate the cost base using a reasonable basis.

Please note that as you have had your property for more than 12 months, you are generally entitled to the 50% CGT discount.

Recoupment

Under section 20-20 of the ITAA 1997, an amount received as recoupment of a loss or outgoing may be an assessable recoupment if it is paid to cover the cost of a deductible expense and the deduction can be claimed in the current year or in an earlier income year.

Recoupment of a loss or outgoing includes any kind of recoupment, reimbursement, refund, insurance, indemnity or recovery (subsection 20-25(1) of the ITAA 1997).

The payment for the relocation of your water tank is considered to be a recoupment. As the recoupment relates to the water tank on your residential property, no deduction has been claimed. The payment represents a recoupment of a private expense. Such a payment is not regarded as an assessable recoupment under subdivision 20-A of the ITAA 1997.

This payment is not assessable under any other taxation provision.

As the payment is not ordinary income and is not statutory income, it is not assessable income.