Raymond Yeung Tax Consultant former Assessor of Inland Revenue Department 前稅局評稅主任楊輝洪

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Compensation receipts from tangible assets

Compensation receipts from sale or loss of tangible assets often give rise to tax disputes --- whether it is of a capital nature (not taxable) or a revenue nature (taxable)?  Let us look at the following case.

Glenboig Union Fireclay Co. Ltd. versus CIR 12 TC 427

In this case, Glenboig had the right to work certain fireclay beds, some of which extended under railway property. The railway company paid Glenboig for refraining from working the beds, the payment being based on the profit that might have been earned if Glenboig had worked the bed. It was held that the payment was a capital receipt, being compensation for the permanent loss of a fixed capital asset --- the right to work the beds. The fact that loss of profits was taken into account in arriving at the amount of compensation did not alter the nature of the payment, which was capital.

In his judgment, Lord Wrenby said this: "This was compensation for being precluded from working part of the demised area which otherwise the Appellants might have worked and thereby made profit. Was that compensation profit? The answer may be supplied, I think, by the answer to the following question: Is a sum profit which is paid to an owner of property on the terms that he shall not use his property so as to make a profit? The matter may be regarded from another point of view: the right to work the area in which the working was to be abandoned was part of the capital asset consisting of the right to work the whole area demised. Had the abandonment extended to the whole area all subsequent profit by working would, of course, have been impossible, but it would be impossible to contend that the compensation would be other than capital. It was the price paid for sterilizing the asset from which otherwise profit might have been obtained. What is true of the whole amount must be equally true of part."

Click here for Burmah Steam Ship Co. Ltd. case.   Click here for Barr Crombie case.

RYTC's comment: The compensation received for a fixed asset or for a loss of permanent part of business is of a capital nature and not taxable. In practice, a fixed asset is an asset that is kept for long-term use. Besides, on the same reasoning, the compensation in respect of a long term investment is not taxable either. Whether there is a loss of a permanent part of business (capital nature) or a temporary part of business (revenue nature) is sometimes debatable. So, in every case, it is advisable for the taxpayer to keep detailed record in support of his claim and to put forward his reasoning in his tax computation why it is of a capital nature and should not be taxable.        


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