Private ruling: Assessable income
Date of advice: 14 February 2017
Published: July 2017
Ruling period: Financial year ending 30 June 2016
Date scheme commenced: 1 July 2015

Ruling: Q1: Is the “ex-gratia” payment made from the Estate of the Testator to the Estate of the Person A treated as non-assessable income? | A1: No

Relevant facts and circumstances: The Testator passed away in 20AA. The Testator's Will appointed Person A and Person B as executors. Person A was a long-time friend of the Testator and provided professional services to the Testator for many years before the Testator's death. Person A died in 20BB. After Person A's death, Person B was the sole surviving executor and trustee of the estate of the Testator. The executor of Person A's estate was Person C. In 20CC, the beneficiaries of the Testator's Will and the executors entered into a Deed of Agreement whereby they agreed that: “In lieu of the passing of accounts and a claim for commission by Person B and Person C as executor of the estate of Person A, the beneficiaries agree for the estate to pay the lump sum ex-gratia payments as described… to Person B as the surviving executor and trustee and to Person C as executor and trustee of the estate of Person A. The payments were described as “ex-gratia capital payments”. The beneficiaries had calculated the payments to Person A and Person B with reference to various court determinations relating to the “pain and troubles” of executors of deceased estates. The estate of Person A and Person B received comparable payments. Your arguments You state that the payment to the estate of Person A should be treated as an ex-gratia gift or an honorarium rather than an executor's commission as: a) the payment was described as “ex-gratia” in the Deed of Agreement; b) Person A passed away early on in the administration of the Testator's estate; c) after Person A's death, their estate had no capacity to perform executor services; d) the gift was made voluntarily by the beneficiaries as a goodwill gesture; e) it was not requested nor solicited by the executor of Person A or their estate; f) no application was made to the court for the payment of a commission; g) the executors were long term friends of the Testator; and h) the estate of Person A does not rely on the gift for maintenance of the beneficiary.

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 15-2

Reasons for decision: Summary: The payment made to the estate of Person A is of the nature of an executor's commission rather than a gift or honorarium and is included in the taxpayer's assessable income under section 6-10 of the Income Tax Assessment Act 1997 (ITAA 1997) | Detailed Reasoning - Executor's Commission: Section 6-5 of ITAA 1997 provides that the assessable income of an Australian resident for taxation purposes, includes income according to ordinary concepts (ordinary income) derived directly or indirectly from all sources. Ordinary income has generally been held to include three categories: a) income from rendering personal services; b) income from property, and c) income from carrying on a business. Paragraph 3 of Taxation Ruling IT 2639 Income tax: personal services income explains that 'income from personal services' is: income that an individual taxpayer earns predominantly as a direct reward for his or her personal efforts by, for example, the provision of services, exercise of skills or the application of labour. The inclusion of predominantly in this definition allows for the situation where personal services involve the use of some equipment, for example the drawing board of an architect. Other characteristics of income that have evolved from case law include receipts that: a) are earned; b) are expected; c) are relied upon, and d) have an element of periodicity, recurrence or regularity. ATO ID 2014/44 Income: Commission paid to executor of deceased estates outlines the circumstances in which an amount of commission paid to executor is included in their assessable income under section 6-10 of the ITAA 1997. Where a taxpayer is appointed as executor and trustee under a Will and they receive an executor's commission for services performed they may be said to have earned the executor's commission as it relates directly to the services they performed. It is not clear, however, that the taxpayer could be said to have expected or relied upon the payment nor has the payment any element of recurrence or regularity. In these circumstances it is arguable whether the payment is income according to ordinary concepts and assessable under section 6-5 of the ITAA 1997. However, section 6-10 of the ITAA 1997 provides that amounts that are not ordinary income but are included in assessable income by another provision, are called statutory income and are also included in assessable income. Subsection 15-2(1) of the ITAA 1997 provides that the assessable income of a taxpayer includes the value to the taxpayer of all allowances, gratuities, compensation, benefits, bonuses and premiums provided to the taxpayer in respect of, or for or in relation directly or indirectly to, any employment of or services rendered by the taxpayer. Section 15-2 of the ITAA 1997 is the rewritten provision, with equivalent meaning, of the former subsection 26(e) of the Income Tax Assessment Act 1936 (ITAA 1936). The courts have consistently indicated that paragraph 26(e) of the ITAA 1936 is not limited to employment situations and that it can apply to payments for services rendered in the absence of an employer/employee relationship ( FC of T v. Cooke and Sherden 80 ATC 4140; (1980) 10 ATR 696, FC of T v. Holmes 95 ATC 4476; (1995) 31 ATR 71; and Smith v. Federal of Commissioner of Taxation (1987) 164 CLR 513; 87 ATC 4883; (1987) 19 ATR 274). A payment of commission is a payment of the type covered by subsection 15-2(1) of the ITAA 1997 as it can be said to be a benefit granted in respect of the services rendered by the taxpayer as the executor of the deceased estate. Accordingly, a commission paid to an executor or trustee of a deceased estate in respect of or for or in relation directly or indirectly to services rendered by them as executor or trustee would be included in the taxpayer's assessable income under section 6-10 of the ITAA 1997 as the commission is assessable income of the taxpayer under subsection 15-2(1) of the ITAA 1997. | Detailed Reasoning - Gifts: Personal gifts are prima facie not income. Whether a gift is assessable income depends on the character of the receipt in the hands of the recipient and the test to be applied is an objective, not subjective, one (Hayes v FC of T (1956) 11 ATD 68). Taxation Ruling IT 2674 Income tax: gifts to missionaries, ministers of religion and other church workers - are the gifts income? outlines the relevant factors to be taken into account in determining the character of the receipt, namely: a) how, in what capacity, and for what reason the recipient received the gift; and b) whether the gift is of the kind which is a common incident of the recipient's calling or occupation; and c) whether the gift is made voluntarily; and d) whether the gift is solicited; and e) if the gift can be traced to gratitude engendered by some service rendered by the recipient to the donor, whether the recipient had already been remunerated fully for that service; and f) the motive of the donor (but it is seldom, if ever decisive); and g) whether the recipient relies on the gift for regular maintenance of himself or herself and any dependants. If the facts surrounding the transaction show that the payment or transfer was made without legal obligation but is nevertheless so related to the recipient's employment, or to services rendered, or to a business carried on that it is, in substance and in reality, not a mere gift but the product of an income-earning capacity, it will be regarded as assessable income of the recipient (Taxation Determination TD 2006/22 Income tax: is disaster relief money received from charities, to which local, state or federal government or their agencies have made payments, assessable income of taxpayers carrying on a business?) | Detailed Reasoning - Honorariums: As with gifts, the treatment of an honorarium for tax purposes depends on the nature of the payment (ie. whether it has the character of income in the hands of the recipient or not). An honorarium is defined in the Oxford dictionary as 'a voluntary payment for professional services rendered without the normal fee.' An honorarium is not general regarded as assessable income because it normally represents a nominal payment for services and in most instances would not cover the incidental costs incurred in providing the service. The following factors indicate a 'true honorarium': a) the payment is received for personal reasons; b) the payment has no connection to the recipient's income-producing activities or services rendered; c) the payment is not received as remuneration or as a consequence of employment, services rendered, or any business; d) the payment is not relied upon or expected by the recipient for day-to-day living; e) the payment is not legally required or expected; f) there is no obligation on the part of the payer to make the payment; g) the payment is a token amount compared to the services provided or expenses incurred by the recipient; h) the form of the receipt, that is, whether it is received as a lump sum or periodically. | Detailed Reasoning - Application to your circumstances: In your case, in applying the objective test, it is the Commissioner's view that in the hands of the recipient, the amount paid to the estate of Person A is properly characterised as being a payment in substitution for a formal executor's commission. The executors were entitled to make a legal claim for commission however the executors and beneficiaries agreed that, in lieu of a claim for commission, they would pay an amount to both executors. The quantum of payment to both executors was calculated by reference to case law on executor's commission. Person B, who continued with the administration of the estate after Person A's passing received a comparable amount under the Deed of Agreement as the Estate of Person A. We have been provided with no evidence to support the claim that the amount paid was a gift or honorarium given voluntarily by the beneficiaries as a goodwill gesture or for personal reasons. The mere description of a payment as “ex-gratia” is not sufficient to determine the character of the payment. The payment is not a token amount compared to the services provided or expenses incurred by the recipient. The factual circumstances point to the payment being so related to services rendered that, in substance and reality, it is not a mere gift or honorarium but the product of an income earning-capacity. The payment made to the estate of Person A is of the nature of an executor's commission rather than a gift or honorarium and is included in the taxpayer's assessable income under section 6-10 of the ITAA 1997 as the commission is assessable income of the taxpayer under subsection 15-2(1) of the ITAA 1997.