Is My Compensation Claim Money Taxable if I Invest It?

If you receive a lump sum from a personal injury compensation claim, you might wonder about the tax implications, especially if you plan to invest that money. 

The short answer is that while the compensation itself is typically tax-free, any income generated from investing that money will be subject to the usual taxes.

Tax-Free Compensation

Under Australian law, personal injury compensation payouts are generally not considered taxable income. This means you do not need to declare the lump sum in your tax return, and it is not subject to income tax or capital gains tax at the time you receive it. This exemption applies to various types of personal injury claims, including those from work injuries, car accidents, and public liability claims.

Investing Your Compensation

However, once you invest your compensation money, the situation changes. Here’s how different types of investments will be taxed:

Interest from Savings Accounts and Term Deposits

If you place your compensation money in a savings account or a term deposit, any interest earned on that amount will be considered taxable income. You will need to declare this interest in your tax return and pay tax on it according to your marginal tax rate.

Dividends from Shares

Investing in shares can be a way to grow your compensation money, but any dividends you receive from those shares will be taxable. Dividends are considered income, and you must declare them in your tax return. The tax you pay on dividends will depend on whether they are franked or unfranked, with franked dividends potentially offering some tax credits.

Capital Gains from Property or Shares

If you use your compensation money to purchase assets like property or shares, you may be liable for capital gains tax (CGT) when you sell those assets. CGT is calculated on the profit you make from the sale of the asset, which is the difference between the purchase price and the selling price. If you hold the asset for more than 12 months, you may be eligible for a 50% discount on the CGT.

Superannuation Contributions

Another option to consider is investing your compensation money into a superannuation fund. This can be a tax-effective strategy, but it comes with strict rules and time limits. 

Contributions to superannuation may be taxed at a lower rate, and the earnings within the super fund are taxed at a concessional rate. However, withdrawing money from superannuation before retirement age can have tax implications, so it is essential to seek financial advice before making this decision.

Seeking Financial Advice

Given the complexities involved in investing compensation money and the potential tax implications, it is crucial to seek advice from a financial advisor. 

A professional can help you navigate the rules and make the most tax-effective decisions for your circumstances. They can also help you understand the best investment options to ensure your compensation money lasts as long as you need it to. Consulting with a financial advisor can help you make informed decisions and optimise your tax position.

Remember, this article provides a general overview, and individual circumstances can vary. Always seek personalised advice from a qualified professional to ensure you comply with all tax obligations and make the best financial choices for your situation.

Note: Smith’s Lawyers are not financial advisors and this content does not represent financial advice in any way. You should consult a professional financial advisor or tax consultant.