Private ruling: Taxation of compensation payment
Published: June 2013
Ruling period: Year ended 30 June 2013
Date scheme commenced: 1 July 2012

Ruling: Q1: Are you assessable on the compensation payment you received? | A1: Yes.

Relevant facts and circumstances: Your employer offered you a payment associated with your ongoing employment. Due to particular circumstances you lost the opportunity to receive this benefit. You made a claim for the benefit that you had been denied. You have received an offer to resolve this matter without recourse to legal action.

Relevant legislative provisions: Income Tax Assessment Act 1997 Subsection 6-5(2)

Reasons for decision: Summary: Section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997) deals with receipt of ordinary income. Ordinary income is defined to mean income according to ordinary concepts. It does not operate to include in a taxpayer's assessable income amounts of a capital nature. Whether a lump sum or other compensation payment constitutes assessable income in the hands of the recipient depends on whether it is a receipt of a capital or income nature which in turn depends upon a consideration of all the circumstances surrounding the payment. It is the character of the receipt in the hands of the recipient that must be determined. For income tax purposes, a compensation amount generally bears the character of that which it intends to replace. Taxation Determination TD 93/58 provides that these payments will be considered assessable income under subsection 25(1) of the Income Tax Assessment Act 1936 (rewritten as section 6-5 of the ITAA 1997 with effect 1 July 1997): (a) if the payment is compensation for loss of income only e.g. past year profits, and/or interest (even where the basis of the calculation of the lump sum cannot be determined); or (b) to the extent that a portion of the lump sum payment is identifiable and quantifiable as income. This will be possible where the parties either expressly or impliedly agree that a certain portion of the payment relates to a loss of an income nature. In general, the issue rests largely on the identified purpose for which the payments were made; that is, the nature and purpose of the compensation itself. A lump sum received to replace past and future earnings has the character of income in the hands of the recipient because it bears an income character and therefore forms part of assessable income under section 6-5 of the ITAA 1997. The receipt of compensation amounts of a revenue nature in a lump sum cannot change their income character. Therefore, your lump sum payment would be a receipt of ordinary income and should be included as assessable income in the year of receipt.