Private ruling: Royalty income
Date of advice: 21 May 2019
Published: July 2019
Ruling period: Year ending 30 June 2019
Date scheme commenced: 1 July 2018

Ruling: Q1: Is the royalty payment assessable income in the 2018-19 income year? | A1: Yes.


Relevant legislative provisions: Income Tax Assessment Act 1997 Section 6-5 | Income Tax Assessment Act 1997 Section 15-20

Reasons for decision: Summary: Assessable income Subsection 6-5(2) of the Income Tax Assessment Act 1997 (ITAA 1997) provides that the assessable income of an Australian resident includes ordinary income derived directly or indirectly from all sources, whether in or out of Australia, during the income year. Ordinary income has generally been held to include three categories, namely, income from rendering personal services, income from property and income from carrying on a business. Under section 15-20 of the ITAA 1997, your assessable income includes an amount that you receive as or by way of royalty if the amount is not assessable as ordinary income under section 6-5 of the ITAA 1997. Where income is earned in one year but received in another, the appropriate method of determining when income is derived needs to be considered. Under the cash or receipts method, income is assessable when received or dealt with by the recipient, regardless of when it is earned. When using the accruals or earnings method, income is assessable when it is derived, regardless of when it is received. TR 98/1 Income tax: determination of income; receipts versus earnings provides guidelines on when income is assessable. The receipts method is likely to be appropriate for income derived by an employee, non-business income derived from the provision of knowledge or the exercise of skill and business income derived from the provision of knowledge and skill subject to qualifications. The earnings method is, in most cases appropriate to determine business income derived from a trading or manufacturing business. A taxpayer must adopt the method that, in the circumstances of the case, is the most appropriate. A method of accounting is appropriate if it 'gives a substantially correct reflex of income' (paragraph 17 of TR 98/1). In determining when income is assessable, a number of factors are taken into account, for example, the size of the business and the business policy for the recovery of outstanding debts. As highlighted in TR 98/1, the following factors generally indicate that the earnings method may be appropriate: ● the taxpayer’s income producing activities involve the sale of trading stock, ● the outgoings incurred by the taxpayer in the day to day conduct of the business have a direct relationship to income derived, ● the taxpayer relies on circulating capital or consumables to produce income or ● the taxpayer relies on staff or equipment to produce income. Paragraph 48 of TR 98/1 states that royalties are generally assessable when received or applied at the taxpayer’s direction. However where royalties are business income, a substantially correct reflex of that income may be given by use of the earnings basis. Paragraphs 9 and 11 of TR 98/1 states Under the earnings method, income is derived when it is earned. The point of derivation occurs when a recoverable debt is created….Whether there is in law a recoverable debt is a question to be determined by reference to the contractual agreements that give rise to the legal entitlement to payment, the general law and any relevant statutory provisions. As outlined in paragraph 57 of TR 98/1, the debt collection policy of a taxpayer is a relevant indicator. Where a taxpayer has formal procedures for collecting debts, the earnings basis is likely to be the more appropriate accounting method. Where a taxpayer does not usually provide credit, the likelihood of debt recovery was low and recovery was generally not pursued, the earnings basis is not generally appropriate. In your case, the contractual agreement in relation to the royalty payment has not been provided and you have not pursued the debt since 2006. Based on the above guidelines, it is considered that your royalty payment is assessable when received, that is, in the 2018-19 income year. This is because: ● The cash basis of accounting is the method generally appropriate for royalties. ● Even though you previously used the earnings method for your business income, you are no longer in business. ● If you were still using the earnings method, the royalties would have been declared as assessable income in the previous years. ● You have not declared any of the royalty payment in previous years. Therefore, the royalty payment is assessable in the year of receipt. Foreign income In your case, you have derived royalty income from country B. In determining liability to Australian tax for Australian residents on foreign sourced income, it is necessary to consider not only the income tax laws but also the laws under the International Tax Agreements Act 1953 (Agreements Act) and any applicable double tax agreement contained in the Australian Treaties Series (ATS). Section 4 of the Agreements Act incorporates that Act with the Income Tax Assessment Act 1936 (ITAA 1936) and the ITAA 1997 so that those Acts are read as one. The Agreements Act effectively overrides the ITAA 1936 and ITAA 1997 where there are inconsistent provisions (except for some limited situations that are not relevant in the present case). Article XX of the relevant agreement discusses royalties. Under this article, royalties from country B that an Australian resident is beneficially entitled to, may be taxed in Australia. As you are an Australian resident, the royalty income forms part of your assessable income.

You made an attempt to join entity A several years ago by faxing through multiple ‘becoming a member’ documents and declarations. | You received a reply a few months later. | You wrote to entity A again the following year, enquiring about your status of membership, however you did not receive a reply. | You do not recall having any further contact with entity A until you received a royalty payment from them in the 2018-19 income year. | The payment was for royalties earned for the period commencing several years ago to last year. | You have a spreadsheet that outlines the dates and payment amounts of the royalties. | You have now retired and are not carrying on a business. | You have never been a citizen of country B and no foreign tax has been paid on the royalty payment. | You previously declared your income using the earnings method. | You have not previously declared any of the above royalty payment. | You do not have a copy of the contractual agreement in relation to the royalties. | You have received royalty payments in the past and declared these using the earnings method.