DEAN & ANOR v FC of TJudges:
The present matter comprises two appeals from a decision of the Administrative Appeals Tribunal (``the Tribunal''). The appeals, which were heard together, involve the same material facts and question of law.
The question of law is whether a lump sum payment, made to each of the applicant taxpayers by a corporation which was not their employer, to induce them to continue their employment for a twelve month period constitutes ``salary or wages'' as defined in s 221A(1) of the Income Tax Assessment Act 1936 (Cth) (``the ITA Act'').
The taxpayers were employed by a company within the Simsmetal Group. Elders Resources NZFP Limited (``Elders Resources''), the ultimate holding company of the companies in the Simsmetal Group, intended to dispose of a number of its subsidiary companies, including the companies in the Simsmetal Group. In an endeavour to obtain the best price for those companies, or the businesses conducted by them, Elders Resources offered to make a lump sum payment, described as a retention payment, to certain key employees of its subsidiary companies including those in the Simsmetal Group. The payment was to be equivalent to 2/3rds of the value of the annual remuneration package payable to the relevant employee.
The applicants, Douglas Dean (``Dean'') and Douglas McLean (``McLean''), were General Managers of companies in the Simsmetal Group and were executive members of the Simsmetal management team. They each received an offer from Elders Resources in a letter dated 26 October, 1990 which, with the exception of the amount of the retention payment, was sent in an identical form to all of the relevant key employees. The letter to McLean, omitting formal parts, was as follows-
``As you know, Elders Resources NZFP Ltd. (`the Company') intends to divest itself of all its non-forestry assets. Simsmetal Holdings Pty. Ltd., its subsidiaries and/or their respective assets will, in due course, be sold to a new owner.
Your continued employment, involvement and support are seen by us as vital to the maintenance of the profit levels and health of the business.
The Company therefore offers to make to you a one-off retention payment of $A108,254 (`the retention payment'). This offer is subject to the following terms and conditions:
- 1. That you agree to remain in your current employment with Simsmetal Services Pty Ltd. or Simsmetal USA Corporation or their successors or assigns (`Simsmetal') for a period of twelve months from the effective date of the forthcoming change of ownership of the part or parts of the Simsmetal business in which you are engaged and to give your full time attention, commitment and energy to the business of Simsmetal during that time. This requirement operates quite independently of your terms of employment and is not intended to have the effect of converting that employment into one for a fixed term. This offer, if accepted, will give rise to obligations between you and the Company only.
- 2. In the event that you resign your employment with Simsmetal before the completion of twelve months' service following the change of ownership, you agree to refund to the Company the amount paid to you under this agreement,
ATC 4764less an abatement of one-twelfth of the total retention payment paid to you for each completed month of service or part thereof. No such refund will be payable if Simsmetal terminates your employment or you die or become permanently disabled before the expiry of the 12 month retention period.
- 3. That you sign and return to Mr John Cornelius the attached copy of this letter to signify your acceptance of the terms and conditions set out in this letter.
- 4. The retention payment of A$108,254 will be made to you when:
- (a) John Cornelius holds the attached copy of this letter duly signed by you and witnessed; and
- (b) the contract of sale of the part or parts of the Simsmetal business in which you are engaged is for practical purposes completed and the purchase moneys paid.''
The amount of the retention payment offered to Dean was $94,485. McLean and Dean each accepted the offer. In due course there was a change of ownership of the company in the Simsmetal Group which employed McLean and he received the sum of $108,254 from Elders Resources. Thereafter, McLean continued his employment. The business of the company employing Dean was sold and he received the sum of $94,485 from Elders Resources. Thereafter, Dean commenced employment with the purchaser of the business.
The Commissioner of Taxation (``the Commissioner'') included the sum of $108,254 in the assessable income of McLean for the year of income ending 30 June 1992 and the sum of $94,485 in the assessable income of Dean for the year of income ending 30 June 1991. Each taxpayer gave notice of objection against the inclusion of those amounts in his assessable income. The objections were disallowed by the Commissioner. The Tribunal affirmed the assessments of the Commissioner on a review sought by the taxpayers of the decisions disallowing the objections. Appeals from the Tribunal's decision by the taxpayers to the Federal Court on questions of law were heard by Northrop J: see
McLean & Anor v FC of T 96 ATC 4443; (1996) 66 FCR 106. His Honour concluded that the Tribunal did not err in law in holding that the retention payments received by the taxpayer constituted income derived by them under s 25(1)(a) of the ITA Act. Northrop J said at ATC 4447; FCR 110:
``... In my opinion all the facts of this case point to the conclusion that the receipt of the retention payments by the taxpayers was related to their activities as employees and as continuing to be employees with the result that in substance and reality the amounts received were the product of the income-earning activity on the part of each taxpayer.
The nature of the payments is made clear by a reference to the contents of the letters written to them by Elders Resources. The payment was made as an inducement to each taxpayer to continue in his employment for a period of at least one year. If the taxpayer voluntarily left his employment, the amount of the payment was reduced but otherwise the payment was for the specified sum. The fact that this was not to be paid on a periodic basis does not detract from the true nature of the receipt of the payment. The continual employment was at the very heart of the receipt of the payment the amount of which was calculated having regard to the salary of the taxpayer.''
However, Northrop J allowed the appeals and set aside the decision of the Tribunal on the basis that the Tribunal had erred in law in concluding that the grounds stated in the taxation objections did not include a ground to the effect that the retention payments constituted exempt income under s 23L(1)(a) of the ITA Act and, as such, did not constitute assessable income under s 25(1)(a). His Honour remitted the matter to the Tribunal for reconsideration of that issue in accordance with law.
On the rehearing the Tribunal granted leave to the taxpayers to amend their objections to raise the issue of exempt income under ss 23L(1)(a) and 25(1)(a) of the ITA Act but concluded that the retention payments did not constitute exempt income. Accordingly, the Tribunal affirmed the decisions of the Commissioner to assess the retention payments as assessable income under s 25(1)(a).
The taxpayers have appealed to the Court on the ground that the Tribunal erred in law in concluding that the retention payments did not constitute exempt income.
The statutory framework
Section 25(1)(a) of the ITA Act excludes ``exempt income'' from the gross income which would otherwise form part of the assessable income of a taxpayer. Section 23L(1)(a) provides that ``exempt income'' includes:
``a fringe benefit within the meaning of the Fringe Benefits Tax Assessment Act 1986.''
Section 136(1) of the Fringe Benefits Tax Assessment Act 1986 (Cth) (``the FBTA Act'') provides:
```fringe benefit' , in relation to an employee, in relation to the employer of the employee, in relation to a year of tax, means a benefit:
- (a) provided at any time during the year of tax; or
- (b) provided in respect of the year of tax;
being a benefit provided to the employee or to an associate of the employee by:
- (c) the employer;
- (d) an associate of the employer; or
- (e) a person (in this paragraph referred to as the `arranger' ) other than the employer or an associate of the employer under an arrangement between:
- (i) the employer or an associate of the employer; and
- (ii) the arranger or another person;
in respect of the employment of the employee, but does not include:
- (f) a payment of salary or wages or a payment that would be salary or wages if salary or wages included exempt income for the purposes of the Income Tax Assessment Act 1936;
There are further exclusions which are not relevant. The other relevant definitions in s 136(1) are:
```benefit' includes any right (including a right in relation to, and an interest in, real or personal property), privilege, service or facility and, without limiting the generality of the foregoing, includes a right, benefit, privilege, service or facility that is, or is to be, provided under:
- (a) an arrangement for or in relation to:
- (i) the performance of work (including work of a professional nature), whether with or without the provision of property;
- (ii) the provision of, or of the use of facilities for, entertainment, recreation or instruction; or
- (iii) the conferring of rights, benefits or privileges for which remuneration is payable in the form of a royalty, tribute, levy or similar exaction;
- (b) a contract of insurance; or
- (c) an arrangement for or in relation to the lending of money;
`salary or wages' means assessable income, being salary or wages within the meaning of section 221A of the Income Tax Assessment Act 1936;''
Section 221A(1) of the ITA Act, as it applied from 24 December 1991, states:
```salary or wages' means salary, wages, commission, bonuses or allowances paid (whether at piece-work rates or otherwise) to an eligible person as such, and, without limiting the generality of the foregoing, includes any payments that are covered by Division 1AA of Part III, any payments of amounts to which paragraph 26(eb) or section 26AC applies, any payments of amounts that are assessable retirement amounts for the purposes of this definition, eligible termination payments and any payments made:
- (a) under a contract that is wholly or principally for the labour of the person to whom the payments are made, where:
- (i) the person making the payments under the contract is not a natural person; or
- (ii) the payments under the contract are not wholly or principally of a private or domestic nature;
but does not include:
- (p) payments of exempt income
The definition of ``salary or wages'' was amended by Act No 216 of 1991 with effect from 24 December 1991 by substituting ``an eligible person as such'' for ``an employee as such''. The same Act inserted a definition of ``eligible person'' into s 221A. The relevant part of the definition provides:
```eligible person' means:
- (a) a person who is an employee within the ordinary meaning of that expression;
Dean's retention payment was received prior to 24 December 1991 and was governed by the definition of ``salary or wages'' prior to its amendment by Act No 216 of 1991. McLean's retention payment was received after 24 December 1991 and was governed by the definition of ``salary and wages'' after its amendment by Act No 216 of 1991. However, it was common ground between the parties that the amendment did not affect the issues arising for determination in the present case.
The taxpayers' contentions
The taxpayers accepted that:
- • the retention payments constitute assessable income for the purposes of s 25(1)(a) unless they are fringe benefits under the FBTA Act;
- • the retention payments do not constitute fringe benefits if they fall within the definition of ``salary or wages'' in s 221A of the ITA Act.
However, the taxpayers contended that the retention payments are not ``salary or wages'', as defined, as:
- • they were not paid by the employer of the taxpayers and were therefore not salary or wages paid to Dean or McLean as employees;
- • properly characterised, the payments were not a reward for services; rather they were payments made in consideration of an agreement by the taxpayers to continue employment for 12 months after the change in ownership of the relevant business.
Accordingly, so it was said, the retention payments constitute fringe benefits.
The Commissioner's contentions
The Commissioner contended that:
- • the retention payments were paid as ``salary or wages'' as defined in s 221A and are therefore excluded from being a ``fringe benefit'';
- • the retention payments were of ``salary'' or ``wages'' as they were made as a reward for the taxpayers' services as an employee; it is not to the point that the payment was made by the holding company of the employer rather than the employer itself;
- • it would not matter if the whole of the consideration was not paid as a reward for services as the payments to the taxpayers were made under a contract that is ``wholly or principally for the labour of the [taxpayers]'': see sub-paragraph (a) of the definition of ``salary or wages'' in s 221A(1);
- • if the payments were not ``salary'' or ``wages'' they were rewards in excess of that which is ordinarily payable in return for the provision of the taxpayers' services and were a ``bonus'' or an ``allowance'' for the purposes of s 221A(1).
Are the retention payments ``salary'' or ``wages''?
The taxpayers contended that under the agreement Elders Resources did not pay the retention payments as a reward for service. Rather, so it was said, the retention payments were paid as consideration for the agreement by the taxpayers not to terminate their employment for twelve months after the intended change of ownership occurred. These contentions cannot be accepted.
The agreement provided for the taxpayers to be entitled to retain the benefit of the retention payments only for so long as they were ``engaged'' and gave their ``full time attention, commitment and energy to the business of Simsmetal'' during the twelve months after the sale of the relevant Simsmetal company or business. Whilst it is true that provision was made for the full benefit of the retention payments to be retained by the taxpayers if their employment was terminated by Simsmetal or if they died or became permanently disabled before the expiry of the twelve month period, those provisions were only incidental to the substantive provisions in the agreement. These provisions were that:
- • the taxpayers agreed to continue to fulfil all of their obligations as employees for twelve months after the relevant sale; and
- • in the event that the taxpayers resigned before completing twelve months of service they agreed to refund the retention payment less an abatement of one twelfth of the payment for each completed month, or part month, of service.
Accordingly, it is not accurate to describe the payments as made in consideration of an agreement by the taxpayers to serve as employees for twelve months after the relevant sale. The pro-rata reimbursement for an earlier resignation ensured that it would not constitute a breach of an agreement by the taxpayers to resign within the twelve month period.
In determining the reason for which the retention payments were paid, the motive for making the payments is to be distinguished from the means by which the motive was to be achieved. The motive of Elders Resources was to induce certain employees, including the taxpayers, to continue in their employment after the change of ownership of the relevant business or company. The means by which the motive was to be achieved was the making of the retention payments for the continuance of service by the employees. The payments for continuance of service are in substance and reality payments for the service. Accordingly, the retention payments are properly characterised as an additional reward for the service of each taxpayer as an employee after the relevant change of ownership for each month or part thereof that they continued to serve as an employee for the twelve months following the relevant change of ownership. As such, the payments constitute additional remuneration payable to the taxpayers in their capacity as employees.
Road and Traffic Authority of NSW v FC of T 93 ATC 4508 at 4512-4513, Hill J said:
``The language of the definition of `salary or wages' in s. 221A(1) is deliberately wide. The legislative purpose was to include in the definition, and so that tax could be deducted by the employer and ultimately remitted to the Commissioner as an anticipatory payment of the employee's tax liability, all amounts paid as a reward for services rendered by the employee:
FC of T v J Walter Thompson (Australia) Pty Ltd (1944) 7 ATD 401; (1944) 69 CLR 227 and at ATD 405-406; CLR 233-234. The description of the payment, for example as a fee, will not be determinative. Nor, as the J Walter Thompson case reminds us, will it be determinative that, for the purposes of legislation such as the Truck Act (1896) (UK), the word `wages' was limited to payments made to manual workers as the context of that legislation is substantially different to the present. Thus Latham CJ said (at ATD 406; CLR 234), speaking of the comparable definition in the Pay-roll Tax Assessment Act 1941:
`In my opinion... the word ``wages'' should be held to include any remuneration paid or payable to an employee as a reward for his services as an employee.'
That wide approach was later to be adopted by the majority of the Full High Court in Murdoch & Ors v Commr of Pay-roll Tax (Vic) (1980) 143 CLR 629, where it was held that distributions by the trustees of a will of a percentage of the profits among employees, in such proportions as the trustees thought fit, were wages paid by the trustee, being the employer, to its employees as such and hence assessable to payroll tax. This was, as the joint judgment of Mason, Murphy and Wilson JJ said (at 645), because the payments in question were `rightly described as remuneration paid to employees because they were employees'.''
In my view the retention payments clearly constitute remuneration paid to the taxpayers as employees as a reward for their services as employees. I would add that to the extent that any part of the consideration paid may not be a reward for services that does not assist the taxpayers. On any view the contract, if not ``wholly'' for the labour of the taxpayers, is ``principally'' for the labour of the taxpayers and therefore within sub-paragraph (a) of the definition of ``salary or wages'' in s 221A(1) of the ITA Act.
Can ``salary'' or ``wages'' only be paid by an employer?
The taxpayers submitted that the retention payments are not salary or wages as only an employer can pay ``salary'' or ``wages''. There are two difficulties with the submission. ``Salary or wages'' are defined as meaning, inter alia, salary or wages paid to an employee. The definition is in terms of the identity of the recipient of the payment of salary or wages, ie an employee, rather than by reference to the
ATC 4768identity of the person making, or liable to make, the payment. The same notion is incorporated in the definition of an ``employee'' which is defined in s 221A(1) as meaning:
``a person who receives, or is entitled to receive, salary or wages...''
An employer is defined as meaning:
``a person who pays or is liable to pay any salary or wages...''
It follows that the person making the payment is defined by reference to that fact and not by reference to whether that person would ordinarily be regarded, at common law, as the employer of the employee. Accordingly, there is no textual basis for importing a requirement that the payer of salary or wages must be the person who would, ordinarily, be regarded as the employer of the employee.
Contrary to the contentions of the taxpayers the cases have not accepted that there is any implicit basis for importing into s 221A, or other statutory equivalents of the section, a requirement that salary or wages can only be paid by the person who would ordinarily be regarded as the employer of an employee. The cases have accepted that ``salary'' or ``wages'' may be payable, as such, by a person who is not the employer of the employee. In
The Trustees of the Estate of George Adams (Deceased) v The Commissioner of Pay-Roll Tax (Victoria) 80 ATC 4424 at 4426; (1980) 143 CLR 629 at 634 Gibbs J said that a similar definition in the Pay-roll Tax Act 1971 (Vic) seemed to make it:
``... unnecessary that the relationship of employer and employee in accordance with the common law principle should exist between the payer and the payee.''
FC of T v Dixon (1952) 10 ATD 82 at 85; (1952) 86 CLR 540 at 556 Dixon CJ and Williams J, in considering whether a gift of money to a former employee to make up the different between his military pay and the pay he would have received in his civilian occupation was assessable income of the employee, said that:
``... it is clear that if payments are really incidental to an employment, it is unimportant whether they come from the employer or from somebody else...''
Hayes v FC of T (1956) 11 ATD 68 at 73; (1956) 96 CLR 47 at 57 Fullagar J agreed with Dixon CJ and Williams J, but added that:
``... in determining whether a payment is `really incidental to an employment', the fact that it is not made by the employer but by some third party may be a very relevant consideration.''
Reuter v FC of T 93 ATC 4037; (1993) 111 ALR 716 Hill J said at ATC 4047; ALR 730:
``Perhaps the most usual usage of the word `income' in ordinary speech is to describe that which comes in as a reward for services. Amounts such as salary, wages, commission, tips and the like, are universally regarded as income and it is immaterial whether they are paid under or pursuant to a contract of service or services on the one hand, or gratuitously on the other. So, too, for income tax purposes, it would be immaterial whether an amount which is a reward for services is paid to the taxpayer in advance of the services being performed (eg, a signing-on fee) or after the services have been performed, or whether the payment is made by the person for whom the services are performed or by some other person. It will also be generally immaterial whether the amount paid is paid periodically or in a lump sum. What will matter is the character of the payment as a reward for services or, as it was put by Fullagar J in Hayes v FC of T (1956) 11 ATD 68 at 74; (1956) 96 CLR 47 at 57-58, whether the receipt is a `product' of the taxpayer's services.''
Newcastle Club Limited v FC of T 94 ATC 4594 at 4595; (1994) 53 FCR 1 at 3-4 Hill J said:
``The obligation upon an `an employer' to deduct amounts from payments of salary or wages that employees receive or are entitled to receive arises under s. 221C(1) of the Act. For present purposes `an employer' is defined in s. 221A(1) of the Act, unless a contrary intention appears, as a person who pays or is liable to pay any salary or wages. Somewhat unhelpfully the expression `employee' is defined in the same sub- section relevantly as meaning a person who receives, or who is entitled to receive, salary or wages. Given these definitions and the fact that the definition of `salary or wages' clearly contemplates payments made by a person who is not in the ordinary legal sense an employer to a person who is not in the ordinary legal sense an employee, it would
ATC 4769seem clear that no employment relationship need as such exist between an employer and an employee before the obligation to deduct group tax arises, provided that the payment made from the one to the other is a payment comprehended within the definition of `salary or wages' also contained in the same sub-section. That definition, as relevant for present purposes, is expressed as follows:
```salary or wages'' means salary, wages, commission, bonuses or allowances paid... to an employee as such...'
The word `employee' as used in the composite expression `employee as such' clearly means a person in an ordinary employer/employee relationship and to this end presents a contrary intention to the defined meaning in s. 221A(1). The consequence, as has been emphasised in cases, most of which concern the corresponding definition in State payroll tax legislation, is that it is not sufficient for the amount to be merely received by a person who happens to be an employee, the amount in question must be paid to the employee in that employee's capacity as employee.''
The definition of an eligible person in the amending Act adopts the approach of Hill J to an ``employee as such''.
In my view, both in principle and in accordance with authority, there is no requirement as a matter of law that for the purposes of s 221A(1), a payment of ``salary'' or ``wages'' to an employee in that capacity must be made by the person who, at common law, is the employer of the employee. In the present case the retention payments were clearly payments to the taxpayers in their capacity as employees in an ordinary employer/ employee relationship, albeit, that the employer in that relationship is not the payer of the retention payments. As a consequence the fact that the payer of the payments is not the common law employer of the employee does not prevent the payments from constituting salary or wages within the meaning of s 221A of the ITA Act.
Are the retention payments a ``bonus''?
If for any reason my conclusion that, for the purposes of s 221A, the retention payments are ``salary or wages'' is wrong then the payments would be a ``bonus'' paid to the taxpayers as employees. In reality the payments constitute a bonus of 2/3rds of the value of the employees' annual remuneration package for fulfilling the terms of their employment contracts.
In Murdoch at ATC 4430; CLR 641-642 Mason, Murphy and Wilson JJ said in respect of an equivalent definition in the Pay-roll Tax Act 1971 (Vic):
``... If the payments in question are to be held liable to pay-roll tax it will be because they are `bonuses... paid... to an employee as such...'. With respect, we find acceptable the description of a bonus which was given by McInerney J. in the Supreme Court:
`A bonus imports, in the case of an employee or agent, something given or paid over and above what is due and payable for his services. Often it is paid out of profit realised, in reward to those whose services have contributed to the making of the profit.... in the case of an employee the payment of a bonus is ordinarily made as a voluntary gift, ex gratia, in recognition of the extent to which the services of that employee have contributed to the making of the profit.'''
Hill J, in Newcastle Club Limited, at ATC 4596; FCR 4 agreed that a bonus for the purposes of the definition in s 221A(1) would be described as:
``... amounts received by employees... over and above what was due and payable for the services of the employee.''
In my view, whilst ordinarily a bonus will be a voluntary payment it may, in some circumstances, be payable as a contractual obligation. If the amount said to be a ``bonus'' is paid as a contractual obligation it is more likely that it is a reward for services and therefore ``wages'' or ``salary'' rather than a ``bonus''. However, on the hypothesis that the retention payments are not ``salary'' or ``wages'' then in my view they will be amounts received over and above what was due and payable for the services of the employee and therefore ``a bonus'' for the purposes of s 221A(1).
For the reasons set out above I am satisfied that the tribunal did not err in law in upholding the Commissioner's disallowance of the taxpayers' objections and confirming the
ATC 4770assessments of the Commissioner. In those circumstances the appeals are to be dismissed with costs.
THE COURT ORDERS THAT:
1. The appeals be dismissed.
2. The applicants pay the respondent's taxed costs of and incidental to the appeals.