Edited version of private advice

Authorisation Number: 1051908459260

Date of advice: 27 October 2021

Ruling

Subject: Compensation income

Question 1

Will the amounts received for compensation be treated as ordinary assessable income under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer 1

No. Based on case law, ordinary income generally includes receipts that are earned, expected, relied upon, and have an element of periodicity, recurrence or regularity. Whilst the income received will have an element of regularity and can be said to be expected and perhaps relied upon, this expectation arises from the potential damages to your property, rather than from a relationship to personal services performed.

As such, the payments in question are not for loss of income, rather they are paid to you in settlement of a claim for compensation. The payments are therefore not ordinary income under section 6-5 of the ITAA 1997.

Question 2

Will the compensation received under the compensation agreement be treated as capital proceeds under section 6-10 of the ITAA 1997?

Answer 2

Yes. Under section 6-10 of the ITAA 1997 some amounts that are not ordinary income are included in your assessable income due to another provision of the tax law. These amounts are statutory income. Statutory income may arise from capital gains tax (CGT) events as consequence of an eligible claimant being entitled to receive compensation and for the loss and destruction of a CGT asset. This can be applied to your situation as you are receiving compensation for the potential damage to your property.

Question 3

Will the compensation received under the agreement reduce the cost base of the relevant property for any future capital gain upon disposal under section 110-45 of the ITAA 1997?

Answer 3

Yes. Where the payments received for your property represent compensation for potential damages to land, any capital gain upon disposal of the property, will reduce the cost base under section 110-45 of the ITAA 1997.

Taxation Ruling TR 95/35 Income tax: capital gains: treatment of compensation receipts discusses the CGT implications for compensation receipts. TR 93/35 states that it is necessary to identify the underlying asset to which the payment relates and what has occurred to that asset. In your case, the underlying asset that has suffered permanent damage or has been permanently reduced in value because of some act happening, occurrence, or event which has resulted in the right to seek compensation from the person or entity causing that damage or loss in value.

The agreement signed by you, states that "the construction and operation may impact on the landowner, the landowners residence and the land including impacts relating to noise or noise levels, traffic movements, dust, other emissions, and visual amenity including lighting, or construction".

Therefore, the compensation payments received will not be treated as assessable income under section 6-5 of the ITAA 1997. However, where there is a capital gain upon sale of the property, the amounts received will reduce the cost base of the property under section 110-45 of the ITAA 1997. You should also consider whether there is a GST liability present.

This ruling applies for the following periods:

Year ended 30 June 20XX

Year ending 30 June 20XX

Year ending 30 June 20XX

Year ending 30 June 20XX

The scheme commences on:

XX October 20XX

Relevant facts and circumstances

You advised:

You signed a neighbour agreement with Company A on XX

On XX a $XX payment was made to you for compensation

The contract details that the payment is to address any potential impacts of Company A during construction

Within the contract, impacts have been defined as:

"Potential or actual impacts on the landowner personally, landowner's residence and land arising from the construction and operation limited to noise, noise levels, traffic movement, dust, visual amenity."

Clause XX of the contract states "the construction and operation of Company A may impact on the landowner, the landowner's residence and the land including impacts relating to noise or noise levels, traffic movements, dust, other emissions, and visual amenity including lighting or construction"

The contract will expire on the X anniversary of the signed agreement, or the construction end date, whichever comes first.

During the construction period, a payment of $XX per annum will be paid to you upon anniversary of the signed agreement

During the operational period, a payment of $XX per annum will be paid to you upon anniversary of the signed agreement

The payments will be adjusted by CPI each year

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 110-45