Compensation

Compensation is a sum of money the aggrieved party receives from the defaulting party due to certain obligations/conditions in the contract not met.

compensation

The GST treatment for compensation received depends on whether it is for something which the aggrieved party has done in return, or is punitive in nature.

Compensation is Punitive in Nature

If the compensation is punitive in nature, there is no supply. Therefore, the aggrieved party need not charge GST on the compensation he receives from the defaulting party.

A lease agreement may provide for an early termination of the lease by the tenant (the defaulting party) in return for his payment of a specified sum of money to the landlord (the aggrieved party).

This payment from the tenant is punitive in nature if the landlord does not provide any other goods or services in return.  Therefore, the landlord does not need to charge or account for GST on the payment received from the tenant.

Compensation is Payment for Something Done in Return

If the compensation is a payment for something which the aggrieved party has done in return for the defaulting party, it will be subject to GST.

The tenant damaged the property. Under the contract, the tenant has to repair the damage and restore the property to its original condition. However as the tenant did not repair the damage, the landlord engaged a contractor to perform the repairs instead. Subsequently, the landlord (the aggrieved party) recovers the costs of the repair services from the tenant (the defaulting party).

In this case, the landlord is considered to be supplying repair services in return for the payment received from the tenant. Therefore, the landlord needs to charge and account for GST on the payment.

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