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    Acc5Tax: 1. Compensation Paid For Cancelation or Variation of A Commercial Contract

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    The document discusses whether compensation received for the cancellation of a contract is ordinary income or capital income for tax purposes. It analyzes the relevant sections of the Income Tax Assessment Act 1997 and examines rules established in case law. Based on the facts that the compensation replaced future income, did not destroy the business structure, and was a regular occurrence in the business, the conclusion is that the compensation for cancelling the contract is ordinary income rather than capital income.

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    Acc5Tax: 1. Compensation Paid For Cancelation or Variation of A Commercial Contract

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    gfdsa121
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    The document discusses whether compensation received for the cancellation of a contract is ordinary income or capital income for tax purposes. It analyzes the relevant sections of the Income Tax Assessment Act 1997 and examines rules established in case law. Based on the facts that the compensation replaced future income, did not destroy the business structure, and was a regular occurrence in the business, the conclusion is that the compensation for cancelling the contract is ordinary income rather than capital income.

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    this my asignement of taxation subject

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    Tax Asignment 1

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    The document discusses whether compensation received for the cancellation of a contract is ordinary income or capital income for tax purposes. It analyzes the relevant sections of the Income Tax Assessment Act 1997 and examines rules established in case law. Based on the facts that the compensation replaced future income, did not destroy the business structure, and was a regular occurrence in the business, the conclusion is that the compensation for cancelling the contract is ordinary income rather than capital income.

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    Download as docx, pdf, or txt
    41 views3 pages

    Acc5Tax: 1. Compensation Paid For Cancelation or Variation of A Commercial Contract

    Uploaded by

    gfdsa121
    The document discusses whether compensation received for the cancellation of a contract is ordinary income or capital income for tax purposes. It analyzes the relevant sections of the Income Tax Assessment Act 1997 and examines rules established in case law. Based on the facts that the compensation replaced future income, did not destroy the business structure, and was a regular occurrence in the business, the conclusion is that the compensation for cancelling the contract is ordinary income rather than capital income.

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    of 3

    ACC5TAX

    Muhammad Zarif Page 1



    The issue is whether the amount received as compensation for the cancellation of
    an agreement is ordinary income or capital income. under ITAA97 s 6-5, A
    compensation is deemed to be ordinary if it arise from loss of income or simply
    put the amount if earned would have been included in assessable income for the
    purpose of taxation. On the other hand, under ITAA97 section 6-10 and section
    15-30, an ordinary income or the compensation payment would be assessed as
    statutory income if it arise from losing the right to earn profit and is not assessable
    under ordinary income.
    In order to determine whether the compensation amount is ordinary assessable
    income or Capital income some rules established by case law need to be
    examined. The general rule that has been established by case law is:
    1. Compensation paid for cancelation or variation of a commercial
    contract :
    When Tax payers suffer losses be it commercial or other kinds, they will
    be compensated. The tax treatment of compensation amount depends on
    what the compensation is received for. Based on Allmans principles
    compensation payment for income lost was a replacement for income that
    would have been earned. It is reasonable to assume that Ajax Ltd has paid
    the amount $ 100000 as compensation for cancellation of contract. Given
    that Ajax Ltd ended 16 years of professional relationship and cancelled a
    contract which still had four years to run indicates that the amount paid
    can only be compensation as a result of contract termination.

    2. Compensation is paid in the ordinary case of the business:
    Edwards Jones & Associatess is an accounting organization with number
    of business contracts and Ajax ltd is one of its contract that is cancelled. It
    is reasonable to assume that in that contract there was a clause that said
    that says that the party that cancels has to pay other party compensation.
    3. The loss does not conduct the structure of the tax payers business:
    The termination of contract did not destroy the structure and earning
    capacity of Edwards Jones & Associates. According to the principle of
    Heavy Minerals case, the compensation made for termination of contract
    ACC5TAX

    Muhammad Zarif Page 2

    will be a substitute for income, where the profit making structure of the
    business is intact. If the businesss profit making structure is permanently
    terminated, the income will be of capital nature (Glenboig case). Where
    the cancelled contract does not terminate profit making of the business
    permanently, or is one of many profit making components of the business,
    the compensation will be substitute for income. Although the contract
    provides 40% of Edwards Jones & Associates income it does not restrict
    them from entering into other contracts. However, the cancellation of
    contract has created a hole in profit and has temporarily impaired
    income earning on Edwards Jones & Associates. According to Allied
    mills (1986) case principle, compensation of agency contract not affecting
    profit making structure of a firm is income in nature.
    Taking the above factors into consideration it can be concluded that the
    compensation amount is ordinary income in nature. This is illustrated in Phillips
    principle which states that payments received as compensation must be regarded
    as of the same nature as the payments which they replace. The cancellation of
    contract has affected future profit of Edwards Jones & Associates which they
    would have earned had the contract not been cancelled. Following the principles
    of Liftronic Pty Ltd v FC of T 96 ATC 4425, a hole in profit is income in nature.
    The structure of the business is unaffected. Hence, the compensation will be
    assessable ordinary income.








    ACC5TAX

    Muhammad Zarif Page 3

    References
    Barkoczy, S. 2014. Foundation Of Taxation Law, 6
    th
    edn, cch Australia
    Limited, Australia.
    Barkoczy, S. 2014. Core Tax Legislation and Study Guide, 17
    th
    edn, cch
    Australia limited, Australia.
    Allman vs FC of T 98 ATC 2142, Paragraph: 12.8
    Allied Mills Industries pty Ltd FC of T 89 ATC 4345, Paragraph: 12.8, 12.9
    Glenboig Union Fireclay Co Ltd v IRC (1922) 12 TC 427, Paragraph: 12.8, 12.9
    Liftronic pty Ltd v FC of T 96 ATC 4425, Paragraph: 12.8
    Phillips; C of T (Vic) v (1936) 55 CLR 144, Paragraph: 12.8
    Heavy Minerals pty Ltd v FC of T (1966) 115 CLR 512, Paragraph: 12.8, 12.9

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