Business interruption insurance: timing of derivation

Section CG 5B of the Income Tax Act 2007

Under the previous legislation, if a person received an amount of insurance, indemnity, or compensation for an interruption or impairment of business activities following an event, any income arising was allocated to the earlier of the income year in which the amount was reasonably estimated or, in case of interim payments, when they were received.

On this basis, if an insurer estimated in an earlier income year a loss of income for a number of future income years, the entire estimated amount would be allocated to that earlier income year. This result is inconsistent with the general tax and accounting practice of allocating income on an accrual basis.

Key feature

Income derived under a business interruption insurance policy is now allocated to the later of the income year to which the replaced income relates or the income year the amount is reasonably estimated (or, in case of interim payments, when they are received).

Detailed analysis

Section CG 5B(3) of the Income Tax Act 2007 has been amended so that income derived under a business interruption insurance policy is allocated to the later of:

• the income year to which the replaced income relates; or
• the earlier of -
  • the income year in which the amount is received; or
  • the income year in which the amount is reasonably able to be estimated.

The amendment ensures an entire estimated income amount for a number of future years is not allocated to an earlier income year.

The income derived under a business interruption insurance policy is allocated to the period the income relates to if the income relates to future income years only. If the income relates to past income years, it will continue to be allocated to the income year in which the amount is either received or reasonably estimated. This is to avoid complex compliance and administrative costs involved in amending past years' income tax returns.

Application date

This generic amendment applies for the 2011-12 and later income years. However, for a person who is granted an extension of time for filing a return of income for the 2010-11 income year under the Canterbury Earthquake (Inland Revenue Acts) Order 2011, the amendment applies for the 2010-11 and later income years.