Private ruling: Capital gains tax and treatment of compensation payment for loss of dividends
Published: December 2014
Ruling period: Year ended 30 June 20YY | Year ended 30 June 20ZZ
Date scheme commenced: 1 July 20XX

Ruling: Q1: Will the mistaken sale and subsequent repurchase of shares trigger a capital gains tax event? | A1: Yes | Q2: Is the compensation payment received for loss of dividends income considered assessable income? | A2: Yes

Relevant facts and circumstances: The deceased's Will was proved X and Y were appointed executors of the Will. The Will bequeathed the amount of $X to three individuals, with the entire residue of the estate to be shared equally between X and Y. Part of the deceased's estate was made up of a specific group of assets. The executors provided instruction to their solicitors, to split these assets equally and transfer ownership of them into their names (X and Y), as beneficiaries of the deceased estate. The solicitors misunderstood the executor's instruction and the assets were sold not transferred in to the names of the beneficiaries as instructed. When the mistake was discovered, the solicitors repurchased the same number and type of assets to replace those sold. The repurchase occurred X months after the sale. The solicitors have advised that this matter has been the subject of a successful professional indemnity insurance claim, with their insurance company paying fees incurred, discrepancies between the sale and purchase price and other various losses incurred because of the mistake. During the period between the sale and the repurchase, income from holding these assets was lost. A compensation payment has been made by the insurance company to compensate the lost income during that period.

Relevant legislative provisions: Income Tax Assessment Act 1997 subsection 6-5(2) | Income Tax Assessment Act 1997 section 120-20 | Income Tax Assessment Act 1997 section 104-10 | Income Tax Assessment Act 1997 subsection 104-10(2)

Reasons for decision: Summary: The concept of a Capital Gains Tax (CGT) event is of crucial importance to the CGT provisions contained in the Income Tax Assessment Act 1997 (ITAA 1997). Section 102-20 of the ITAA 1997 states You can make a capital gain or capital loss if and only if a CGT event happens [emphasis added] If the transaction or event is not a CGT event, a capital gain or capital loss cannot be made. The disposal of an asset is the most common CGT event and is referred to as CGT event A1 under section 104-10 of the ITAA 1997. Subsection 104-10(2) of the ITAA 1997 states You dispose of a CGT asset if a change of ownership occurs from you to another entity, whether because of some act or event or by operation of law. However, a change of ownership does not occur if you stop being the legal owner of the asset but continue to be its beneficial owner. In your case, a specific group of assets were mistakenly sold by your solicitor not transferred into the names of X and Y being beneficiaries of the deceased estate as instructed. The mistake was not discovered for X months, at which time the solicitor purchased the same number and type of assets to replace those mistakenly sold. The sale of the assets was not reversed, maintaining the original acquisition date, rather the same number and type of asset were simply purchased as replacement assets for the original assets sold, providing a new acquisition date. There is a clear change of ownership at the time the assets were sold. X and Y ceased to be either the legal or beneficial owners of the original assets from the date of disposal. The repurchase of assets of an equal number and type constitutes a CGT acquisition, at which time X and Y obtained legal and beneficial ownership of the new assets. There is no discretion available to the Commissioner to disregard the occurrence of a CGT event and therefore on dd/mm/yyyy, CGT event A1 was triggered with the disposal of the original assets. Subsection 6-5(2) of the Income Tax Assessment Act 1997 (ITAA 1997) provides that the assessable income of an Australian resident taxpayer includes ordinary income derived directly or indirectly from all sources during the income year. Ordinary income has been held to include income from providing 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 or relied upon • have an element of periodicity, recurrence or regularity • replace income. An amount paid to compensate for loss generally acquires the character of that for which it is substituted ( FC of T v. Dixon (1952) 86 CLR 540; (1952) 5 ATR 443; 10 ATD 82). Compensation payments which substitute income have been held by the courts to be income under ordinary concepts ( FC of T v. Inkster (1989) 20 ATR 1516; 89 ATC 5142; Tinkler v. FC of T (1979) 10 ATR 411; 79 ATC 4641; Case Y47 (1991) 22 ATR 3422; 91 ATC 433). Taxation Determination TD 93/58 outlines the circumstances under which the receipt of a lump sum compensation/settlement payment is assessable as ordinary income. The determination states that where the compensation payment is for loss of income, the amount is assessable as ordinary income. Where a portion of a lump sum payment is identifiable and quantifiable as income, that portion of the payment will be assessable. In your case, you received a payment to compensate the lost income that you would have received, had the assets not been incorrectly sold and subsequently repurchased. The amount paid to compensate for the loss of income is assessable as ordinary income under subsection 6-5(2) of the ITAA 1997 in the income year in which it was received.