Edited version of private advice

Authorisation Number: 1051758182452

Date of advice: 23 September 2020

Ruling

Subject: Compensation payment - defective administration

Question

Is a compensation payment you received because of defective administration assessable income under section 6-5 or section 15-2 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes

This ruling applies for the following period:

30 June 20XX

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

You were employed by X for many years.

Many years ago, you left one branch of your employment and transferred to another branch several days later.

After many years of continuous eligible service, you may receive a retention benefit, subject to particular requirements.

Several years ago, you contacted the administration team involved with the retention benefits scheme to discuss how you should receive your benefit. Eligible members have the option to take the benefit as a cash payment or salary sacrifice into an approved /superannuation fund.

At this time, you were advised that as you had had a short break in service between transferring from one branch of employment to another with Employer X, you were not eligible for the benefit. This was because the break meant you had not met the continuous service requirement to be eligible for the benefit.

You were advised that your period for calculating continuous service would commence on a particular date.

The relevant senior person can declare individual members or can declare the member as part of a particular class. This category confers eligibility on members that have been unable to achieve promotion or have been transferred to another employment category because of the employer's capability needs.

In 20XX, your employment category was included in the relevant declaration (the Declaration). This meant that as you were included in the relevant category between XXXX and XXXX and had reached a qualifying employment category, if you become eligible for the benefit before 20XX, you would receive it.

However, this declaration did not apply when you completed your period of continuous service and you had not reached a qualifying employment category so were not eligible for the benefit.

In 20XX, you were notified that the service break incorrectly included on your employment record negatively impacted your entitlement. You submitted an application for Redress of Grievance to have your record modified so that your continuous service would commence from 19XX. The application was successful, and your record was amended.

However, on requesting a review of your entitlement you were informed that although you would have been eligible for the retention benefit in 20XX, you had missed the prescribed period in which to elect to receive the retention benefit and could not be paid.

Although you reached another qualifying period of service in 20XX, by that time you were not eligible for the retention benefit as you had not reached a qualifying employment category.

It was found that defective administration occurred, resulting in your ineligibility for the benefit in 20XX. You have received compensation. This is equal to one year's annual salary at 20XX and allowance with inflation applied using the RBA Inflation Calculator.

Relevant legislative provisions

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

Income Tax Assessment Act 1997 section 15-2

Reasons for decision

Summary

The amount received as a compensation payment for defective administration is assessable income.The compensation payment has the character of assessable income because it replaces income. A capital payment would also be taxable because it was paid in relation to your employment.

Detailed reasoning

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 Income tax: under what circumstances is the receipt of a lump sum compensation/settlement payment assessable?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 your employer. This payment was made because of incorrect recording of your dates of transfer from one branch of employment to another, which meant you were ineligible to receive a retention benefit. The compensation payment has a direct nexus to your employment relationship.

The compensation payment is based on the amount of retention benefit you might otherwise have been paid.

The compensation payment has the character of assessable income because it replaces income from this source. A capital payment would also be taxable because it was paid in relation to your employment.

Therefore, the lump sum compensation payment you received for defective administration, is assessable income under section 6-5 or section 15-2 of the ITAA 1997 and must be included as such in your tax return in the 20XX-20XX year, being the year of receipt.