Issue
Is an undissected lump sum paid to redeem an entitlement to weekly workers compensation payments and medical expenses, assessable income under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997)?
Decision
No. The undissected lump sum is not assessable income under section 6-5 of the ITAA 1997.
Facts
The taxpayer suffered a workplace injury.
Their employer has an undischarged liability to pay the taxpayer weekly workers compensation and pay all medical expenses relating to the workplace injury.
The taxpayer was offered a lump sum commutation payment in full and final settlement of their right to, amongst other things, weekly compensation payments and medical expenses.
If the offer is accepted and duly approved, the lump sum received is taken to be in full and final satisfaction of all present and future claims against their employer.
Reasons for Decision
Section 6-5 of the ITAA 1997 provides that the assessable income of a taxpayer includes income according to ordinary concepts (ordinary income).
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.
Other characteristics of income that have evolved from case law include receipts that: • are earned • are expected • are relied upon, and • have an element of periodicity, recurrence or regularity.
The compensation offered to the taxpayer is not income from rendering personal services, income from property or income from carrying on a business.
The payment is also a one off payment and thus it does not have an element of recurrence or regularity.
A compensation amount generally bears the character of that which it is designed to replace. If the compensation is paid for the loss of a capital asset or amount then it will be regarded as a capital receipt and not ordinary income.
In this instance, the settlement offer of a lump sum payment has been made to replace an income stream, medical expenses and a capital asset. As such, it is necessary to consider whether the payment could be dissected into assessable and non-assessable components.
McLaurin v. Federal Commissioner of Taxation (1961) 104 CLR 381; (1961) 12 ATD 273; (1961) 8 AITR 180 and subsequently Allsop v. Federal Commissioner of Taxation (1965) 113 CLR 341; (1965) 14 ATD 62; (1965) 9 AITR 724 raised the proposition that where a lump sum compensation payment can be dissected into its constituent income and capital components, the income components may be assessable. The Commissioner confirmed this view in Taxation Determination TD 93/58 and indicated that any part of a lump sum compensation amount will only be assessable as ordinary income: (a) if the payment is compensation for loss of income only...; or (b) to the extent that a portion of the lump sum is identifiable and quantifiable as income. This is possible where the parties either expressly or impliedly agree that a certain portion of the payment relates to a loss of an income nature.
Consequently, where a taxpayer receives an undissected lump sum which includes assessable and non-assessable components that cannot be identified or quantified, the whole of the lump sum amount is treated as a non-assessable receipt.
The settlement offer was made to redeem the taxpayer's entitlement to weekly compensation payments and medical expenses and to surrender their rights to any other future claim against their employer. There will be no identifiable or quantifiable component of the proposed lump sum payment.
As the proposed lump sum payment to the taxpayer would comprise compensation for a mixture of income and capital items and the payment cannot be dissected into its constituent parts, the whole amount would be deemed to be of a capital nature. Therefore, the lump sum amount is not assessable income under section 6-5 of the ITAA 1997.
Note: the issue of the application of the Capital Gains Tax provisions is dealt with in Taxation Ruling TR 95/35.