Talking Tax – Issue 163
Income protection and superannuation insurance payments: assessable or not?
In YCNM and Federal Commissioner of Taxation [2019] AATA 1592, the Administrative Appeals Tribunal (AAT), found that a lump sum payment made under an income protection insurance policy was partly assessable as income under section 6-5 of the Income Tax Assessment Act 1997 (Cth) (Act). The AAT concluded that the portion of the lump sum attributable to a superannuation contribution insurance policy was not assessable as income.
The decision is a reminder that the tax character of insurance proceeds is to be determined by the nature of those proceeds in the hands of the recipient, rather than the terms of a deed of release or settlement deed. To the extent the insurance proceeds are a replacement for what would have been income, it will be assessable as income.
In 2003, the Taxpayer began to suffer from severe depression and anxiety that prevented him from being able to work. Fortunately, the Taxpayer was covered by Salary Continuance Insurance and Superannuation Contributions Insurance and made a claim in mid-2003.
The insurer accepted the claim and after a period of almost 10 years the Taxpayer and the insurer entered into a deed of release, under which the Taxpayer received a lump sum payment. The ATO included the full amount in the Taxpayer’s assessable income and the Taxpayer sought a review of this decision.
The Taxpayer argued that because, under a settlement deed, he had given up any rights to future claims against the insurer, the lump sum payment was capital in nature.
The Taxpayer also submitted that his receipt of the lump sum did not give rise to a capital gain because the lump sum was equal in value to the cost base of the rights that had been relinquished under the settlement deed. In the alternative, the Taxpayer argued that any capital gain was exempt from CGT pursuant to section 118-37 of the Act as the CGT event related to compensation or damages for a wrong, injury or illness suffered by the Taxpayer.
Ultimately, the AAT found largely in favour of the Commissioner, concluding that part of the lump sum payment was assessable as income. Additionally, the AAT found that the receipt of the lump sum payment did not give rise to a capital gain.
The AAT found that the settlement deed, under which the Taxpayer’s rights were released, did not dictate the character of the receipt. Rather, the AAT confirmed that the quality of the receipt in the hands of the recipient (here, the Taxpayer) is the determinative factor.
In doing so, the AAT followed the principle articulated in the decisions in McLaurin v. FC of T1 and Allsop v. FC of T2, and in the ATO’s Taxation Ruling TR 95/35,3 that a lump sum payment may be dissected into its component revenue and capital elements where the amounts of those components are calculable.
The AAT found that the amount attributable to the monthly salary continuance claim (approximately 88.2%) was assessable as ordinary income under section 6-5 of the Act. This was because the relevant lump sum amount was designed to be a replacement for the income that the Taxpayer would otherwise have received had the injury not occurred.
The AAT concluded that the amount payable under the superannuation contribution continuance claim (approximately 11.8%) was not income and therefore not assessable under section 6-5.
Finally, the AAT considered whether, to the extent that any capital gain had been made by the Taxpayer, it would be disregarded under section 118-37. This section allows taxpayers to disregard gains or losses relating to compensation or damages received for any wrong or injury suffered by the taxpayer. The AAT found that, if the lump sum were to be returned as a capital gain, it would be disregarded under section 118-37 because the capital gain arose from a CGT event relating directly to compensation or damages received by the Taxpayer for a wrong, injury or illness suffered by the Taxpayer.
A tricky business
In Hill and Federal Commissioner of Taxation [2019] AATA 1723, the Administrative Appeals Tribunal (AAT) considered whether the Taxpayer was carrying on a business of share trading, which would allow the Taxpayer to claim or carry forward a series of losses that had been incurred in the 2015, 2016 and 2017 income years.
Ultimately, the AAT affirmed the decision of the Commissioner that the Taxpayer was not carrying on a business of share trading.
This decision serves as a reminder to investors that whether or not their share trading activities constitute the ‘carrying on a business’ is not a straight forward issue. Those looking to claim deductions incurred in the course of share trading should seek professional guidance.
On the flip side, investors making gains and seeking to treat them as capital gains rather than ordinary income need to be careful that their activities don’t constitute carrying on a business.
The Taxpayer retired in 2010 and decided to invest his superannuation in the Australian share market along with a $600,000 investment loan. The Taxpayer suffered large losses in the first two years of trading and had to recommence work in order to repay the investment loan.
The AAT accepted that the Taxpayer had made a very significant investment into the share market and that a ‘business’ may operate ‘on the side’ without needing to occupy the majority of a person’s working life. However, these factors alone did not establish that the Taxpayer was carrying on a business so as to enable him to claim a deductible loss under section 8-1(1)(b) of the Income Tax Assessment Act 1997 (Cth).
The AAT, considering the totality of the Taxpayer’s circumstances, determined that he was not carrying on a business of share trading. In so concluding, the AAT had particular regard to the following factors:
- the infrequency of trading together with numerous periods of no trading;
- the lack of an established system of trading and the irregularity of trading activities;
- the Taxpayer’s commitment to full time work in the aviation industry for the majority of the period giving rise to the impression that share trading was a ‘side issue’;
- the Taxpayer’s failure to arrange his share trading activities in a business-like manner;
- the fact that the Taxpayer did not incorporate a trading vehicle or register a business name or trading name;
- the Taxpayer’s decision not to engage any professionals such as stock brokers or financial planners despite having no formal qualifications himself;
- the lack of record keeping that would have enabled accurate profit and loss or other financial statements to be prepared;
- the research conducted was unsophisticated and relied heavily on Foxtel, Commsec and Westpac publications as well as what could be found on the internet generally; and
- the fact that the Taxpayer’s business plan was unsophisticated and contained very little detail.
Aggregation of Dutiable Transactions
The NSW Chief Commissioner of State Revenue has released updated revenue ruling DUT 036v3 (Ruling) which covers the aggregation of dutiable transactions pursuant to section 25 of the Duties Act 1997 (NSW) (Act). The Ruling seeks to outline the manner in which section 25 of the Act will be applied and, whilst it refers to transactions of real property, is applicable to all forms of dutiable property.
Aggregation effectively increases the amount of duty paid - the benefit of progressive duty rates only applies once to the single aggregated transaction (rather than to each separate transaction), and the higher aggregated dutiable value may fall into higher rates of duty.
Under section 25 of the Act, dutiable transactions are to be aggregated and treated as a single dutiable transaction if the following circumstances apply:
The dutiable transactions occur within 12 months
Pursuant to the Ruling, where there is more than one dutiable transaction occurring on different days, the 12 month period will commence from the date of the first dutiable transaction that is to be aggregated.
Transferor is the same or transferors are associated persons
‘Associated persons’ is defined in the Act and if there are more than two different transferors under the dutiable transaction then all of them must be associated persons.
Transferee is the same or transferees are associated persons
Similarly to transferors, the Ruling provides that if there are more than two different transferees under the respective dutiable transactions, then all of them must be associated persons for the aggregation rules to apply.
The dutiable transactions constitute substantially one arrangement
The Ruling provides that whether or not dutiable transactions give effect to, or arise from what is, substantially, one arrangement is determined at the time the dutiable transactions are entered into. The Chief Commissioner has also accepted that dealing with separate properties jointly but subsequently to purchase is not, of itself, sufficient to characterise the initial transaction as one arrangement.
The Chief Commissioner has also provided a helpful list of examples of transactions that would constitute ‘one arrangement’ for the purpose of section 25 of the Act.
This article was written with the assistance of Charlie Renney, Lawyer.
1(1961) 104 CLR 381.
2(1965) 113 CLR 341.
3TR 95/35, paragraphs 190-196.
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