Private ruling: Capital gains tax
Published: July 2013
Ruling period: Year ended 30 June 2013 | Year ending 30 June 2014
Date scheme commenced: 1 July 2012

Ruling: Q1: Are the proceeds received by the Estate, as a result of the settlement of a claim against A and B, a capital gain? | A1: Yes. | Q2: Is the capital gain from this event disregarded? | A2: Yes. Issue 2 - Payment 2 | Q3: Are the proceeds received by the estate as a result of the settlement of a claim against the advisors a capital gain? | A3: Yes. | Q4: Do the portion of the legal costs incurred in pursuing the claim against the advisors form part of the cost base when calculating the capital gain? | A4: Yes. | Q5: Can the 50% discount in Division 115 of the Income Tax Assessment Act 1997 (ITAA 1997) be applied to the capital gain? | A5: Yes. | Q6: Are there any taxation consequences under Division 302 of the ITAA 1997 in relation to the payment? | A6: No.

Relevant facts and circumstances: The arrangement that is the subject of the private ruling is described below. This description is based on the following documents. These documents form part of and are to be read with this description. The relevant documents are: · the application for private ruling, · the documents provided with the application for private ruling, · the Release Agreement and · the Second Further Amended Statement of Claim. In 200X the deceased completed an application for a Life Protection Plan to be issued by A to B to provide a death benefit in respect of the deceased for an amount. The deceased ticked 'yes' when asked whether the Life Protection Plan was to replace another policy In 200Y, A issued a Life Protection Plan to B. Later in 200Y, the deceased completed an application to increase the cover under the policy. A, agreed to vary the policy and increase the death benefit. The deceased passed away in the 200Z financial year. The executor of the Estate lodged a claim with B for the payment of the death benefit under the policy. In later 200Z, A became aware that the deceased had not cancelled the other policy. In early 200Z the executor was advised that A had decided to cancel the policy from inception as a result of the deceased's failure to cancel the other policy. The executor commenced proceedings against A and B in the Supreme Court alleging breach of the policy and seeking payment of the death benefit. The executor added the advisors to the proceedings alleging negligence in the provision of life insurance advice and seeking payment of damages. A settlement payment of $X was made to the Estate pursuant to a Release Agreement. The Release Agreement provides that A and B will pay the Estate an amount. The Release Agreement also provides that the advisors pay a further amount. The Estate incurred legal costs in pursuing the claims.

Relevant legislative provisions: Income Tax Assessment Act 1997 section 102-20 | Income Tax Assessment Act 1997 section 104-25 | Income Tax Assessment Act 1997 subsection 104-25(2) | Income Tax Assessment Act 1997 section 108-5 | Income Tax Assessment Act 1997 Division 115 | Income Tax Assessment Act 1997 section 118-20 | Income Tax Assessment Act 1997 subsection 118-300(1) | Income Tax Assessment Act 1997 Division 302

Reasons for decision: Detailed Reasoning - Question 1: Capital gains tax (CGT) is the tax you pay on certain gains you make. Section 102-20 of the ITAA 1997 provides that you make a capital gain or capital loss as a result of a CGT event happening to an asset in which you have an ownership interest. 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 95/35 discusses the treatment of compensation receipts. If an amount of compensation is received by a taxpayer wholly in respect of the disposal of an underlying asset, or part of an underlying asset, of the taxpayer the compensation represents consideration received on the disposal of that asset (CGT event A1). In these circumstances, we consider that the amount is not consideration received for the disposal of any other asset, such as the right to seek compensation (paragraph 4 TR 95/35). If the amount of compensation is not received in respect of any underlying asset, the amount relates to the disposal by the taxpayer of the right to seek compensation. It is only in these cases that CGT event C2 would occur. The underlying asset is the asset that, using the 'look-through' approach, is disposed of or has suffered permanent damage or has been permanently reduced in value because of some act, happening, transaction, occurrence or event which has resulted in a right to seek compensation from the person or entity causing that damage or loss in value or against any other person or entity. | Detailed Reasoning - Application to your circumstances: In this case, the Estate received compensation in relation to the life insurance policy held by the deceased. The payment was made under a Release Agreement between the Estate, A and B. Using the look through approach we consider that the right to seek compensation leads directly from the right to receive a death benefit under the life insurance policy. Accordingly, the right to receive the death benefit is the underlying asset for CGT purposes. Therefore, a CGT event occurred when this right was disposed of and the compensation was paid to the estate. | Detailed Reasoning - Insurance and superannuation: Under subsection 118-300(1) of the ITAA 1997, a capital gain or loss you make from a CGT event happening in relation to a CGT asset that is your interest in rights under a life insurance policy is disregarded under certain circumstances. For example, the CGT event is disregarded if it happens to a policy of insurance on the life of an individual and you are an entity that acquired the interest in the policy for no consideration. | Detailed Reasoning - Application to your circumstances: In this case, the Estate acquired an interest in the life insurance policy for no consideration when the deceased passed away. Therefore, the CGT event is disregarded. | Detailed Reasoning - Question 1: Section 104-25 of the ITAA 1997 indicates that a CGT event C2 happens if a taxpayer's ownership of an intangible CGT asset ends by the asset being redeemed, cancelled, released, discharged, satisfied, abandoned, surrendered, forfeited or expiring. The right to seek compensation is an asset for CGT purposes. Subsection 104-25(2) of the ITAA 1997 indicates that the right to seek compensation is acquired at the time of occurrence of the breach of contract, personal injury or other compensable damage or injury. The right to seek compensation is disposed of when a court order is made or an out of court settlement is reached. It is not relevant when the payment is received. | Detailed Reasoning - Application to your circumstances: In this case, when the Release agreement was executed the Estate disposed of its right to seek compensation. At this point in time, CGT event C2 happened for the Estate. | Detailed Reasoning - Question 2: Any capital gain arising from the disposal of your right to seek compensation is calculated using the cost base of that right. The cost base of a CGT asset consists of five elements: · The first element, being the acquisition costs, is the total of the money paid, or required to be paid, in respect of the acquisition. · The second element is the incidental costs that the taxpayer incurs in acquiring the asset of which relate to a CGT event that happens in relation to the asset. · The third element is costs of ownership, including both capital and non-capital costs. · The fourth element is capital costs associated with increasing or preserving the value of your asset, or installing or moving the asset. · The fifth element is capital expenditure incurred by a taxpayer in establishing, preserving or defending their title to an asset, or right over an asset. The consideration in respect of the acquisition of the right to seek compensation includes the costs incurred as a result of which the right to seek compensation arose. This would include any legal expenses incurred in respect of pursuing the right to seek compensation, that is, legal expenses that relate specifically to the claim for compensation. In this case, the portion of the legal expenses incurred in securing the compensation payment from the advisors will be included in the cost base when calculating the capital gain. | Detailed Reasoning - Question 3: Under section 115-10 of the ITAA 1997, to qualify for the 50% general discount a capital gain must be made by an individual, a complying superannuation entity, a trust or a life insurance company. The capital gain must result from a CGT event happening after 11:45am on 21 September 1999 and must not have an indexed cost base. Also, the gain must result from a CGT event happening to an asset that was acquired at least 12 months before the CGT event. | Detailed Reasoning - Application to your circumstances: In this case, the Estate acquired a right to seek compensation due to the advisors alleged negligence in the provision of life insurance advice. This right became apparent when A cancelled the life insurance policy due to the deceased's failure to cancel another policy. This right was disposed of when the Release agreement was executed. This right existed for a period of more than 12 months; therefore you are entitled to apply the 50% discount to your capital gain. | Detailed Reasoning - Question 4: Division 302 of the ITAA 1997 sets out the tax treatment of superannuation death benefits received by members of complying plans. This treatment varies depending on the age of the deceased when they died (and in some cases on the age of the recipient of the benefit). In this case, the payment received was from a life insurance policy. Therefore, Division 302 of the ITAA 1997 is not relevant.