Edited version of private ruling

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Ruling

Subject: Income maintenance payments

Questions:

1. Are amounts paid by way of income maintenance to be considered employment termination payments?

Answer: No.

2. Are any of the amounts paid by way of income maintenance to be exempt from tax as a genuine redundancy payment?

Answer: No.

This ruling applies for the following periods:

Year ended 30 June 2010

Year ending 30 June 2011

The scheme commences on:

1 July 2009

Relevant facts and circumstances

Your are less than 65 years of age and your employment with the employer (the Employer) was terminated in the 2009-10 income year.

In a letter the Employer stated:

(a) your position was excess to its requirements and there were no apparent opportunities for redeployment;

(b) retrenchment benefits and procedures were detailed in an Enterprise Agreement (the Agreement); and

(c) the options available to you on retrenchment were either a lump sum payment or payment of income maintenance for a specific period.

Details of the Agreement have been obtained and the redeployment and retrenchment clauses state there being two alternative retrenchment benefits. Either:

(a) a lump sum payment based on a specified formula, or

(b) payment of income maintenance for a specified period.

The amounts to be paid by way of income maintenance shall be calculated as follows:

(i) where the former employee is unemployed, payment will be at a rate equivalent to their salary at the date of termination less any amount received by way of unemployment relief.

(ii) where the former employee obtains outside employment, payment (if any) will be at the rate necessary to bring their salary from that employment to the salary level at the date of termination.

(iii) where an employee accepts redeployment to a position of lower classification than their previous level, payment will be at the rate necessary to bring their salary up to the salary received immediately before the date of redeployment.

(iv) During the period of income maintenance, former employees will be required to provide acceptable evidence of income (from employment, or unemployment relief) in order to establish and maintain eligibility for income maintenance.

You elected for the payment of income maintenance and commenced receiving income maintenance payments in the 2009-10 income year.

Subsequent to your termination of employment you also commenced to receive benefits from your superannuation fund and a government department.

You are required on a monthly basis to provide the Employer declarations of income to determine your income maintenance payments.

The income maintenance payments you received during the 2009-10 income year formed part of your PAYG Payment Summary and were included in your income tax return for that year.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 1-3

Income Tax Assessment Act 1997 Subsection 6-5(2).

Income Tax Assessment Act 1997 Section 82-130.

Income Tax Assessment Act 1997 Subsection 82-130(1).

Income Tax Assessment Act 1997 Section 82-135.

Income Tax Assessment Act 1997 Subsection 82-135(b).

Income Tax Assessment Act 1997 Subsection 83-175.

Income Tax Assessment Act 1997 Subsection 83-175(4).

Income Tax Assessment Act 1997 Section 995-1(1).

Acts Interpretation Act 1901 Section 15AC

Taxation Administration Act 1953 Section 357-85 in Schedule 1

Reasons for decision

Summary

The 'income maintenance' payments payable to you after termination of employment are not employment termination payments, nor do they form part of a genuine redundancy payment. As the payments are income under ordinary concepts they are assessable as salary or wages.

Detailed reasoning

Employment termination payments made on or after 1 July 2007

From 1 July 2007, the law concerning the treatment of payments made in consequence of the termination of any employment of a taxpayer was changed. These payments, formerly known as 'eligible termination payments', are now known as 'employment termination payments'.

Notwithstanding the legislative changes use a different style and forms of words, it should be noted that this does not necessarily mean rewritten tax provisions are to be viewed differently to the old provisions where the ideas remain the same (section 15AC of the Acts Interpretation Act 1901 and section 1-3 of the Income Tax Assessment Act 1997 (ITAA 1997)).

Further, a public or private ruling about a provision of the Income Tax Assessment Act 1936 is also taken to be a ruling about the corresponding provision of the ITAA 1997 so far as the provisions express the same ideas (section 357-85 in Schedule 1 to the Taxation Administration Act 1953).

The term 'employment termination payment' is defined in subsection 82-130(1) of the ITAA 1997 which states that:

A payment is an employment termination payment if:

(a) it is received by you:

(i) in consequence of the termination of your employment; or

(ii) after another person's death, in consequence of the termination of the other person's employment; and

(b) it is received no later than 12 months after that termination (but see subsection (4)); and

(c) it is not a payment mentioned in section 82-135.

Section 82-135 of the ITAA 1997 states:

The following payments you receive are not employment termination payments:

(a) a superannuation benefit (see Divisions 301 to 307);

(b) a payment of a pension or an annuity (whether or not the payment is a superannuation benefit); and

(c) an unused annual leave payment (see Subdivision 83-A);

(d) an unused long service leave payment (see Subdivision 83-B);

(e) the part of a genuine redundancy payment or an early retirement scheme payment worked out under section 83-170 (see Subdivision 83-C);

(f) …

(emphasis in paragraph (b) added)

As noted above, in order for a payment to be treated as an employment termination payment it must not only be 'in consequence of' a termination of employment but also satisfy all of the other conditions under subsection 82-130(1) of the ITAA 1997.

In your particular situation, you're employment with the Employer was terminated in the 2009-10 income year as your position was excess to the Employer's requirements. The Employer was unable to identify a suitable position in which to redeploy you. As a result, your employment was terminated by reason of redundancy.

You were accordingly eligible to receive either a lump sum payment or income maintenance payments for a specified period under an Enterprise Agreement (the Agreement).

Analysis of the Enterprise Agreement

The Agreement provides two alternative retrenchment benefits for an employee whose employment is terminated. The options provided are:

(a) a lump sum payment; or

(b) payment of income maintenance for a specified period.

An employee who is retrenched will receive a lump sum payment calculated in accordance with the Agreement unless the employee elects to receive payment of income maintenance as provided in a clause in the Agreement.

The income maintenance payments are calculated to bring the former employee's income up to the equivalent amount of the person's salary at the time of termination of employment. That is, the purpose of the income maintenance payment is to pay the unemployed person, on a regular basis, an amount equivalent to the person's salary at the date of termination of employment less any amount received by way of unemployment relief.

Where the person has obtained new employment the income maintenance payment is to top up the other income to make it equivalent to the person's salary at the date of termination of employment.

The Tax Office view on income maintenance payments is stated in Income Tax Ruling IT 2168 as follows:

23. Lump sum retrenchment payments under Determination 509 of 1977, under the Commonwealth Employees (Redeployment and Retirement) (Benefits) Regulations 1981 and under the involuntary retirement provisions of the Superannuation Act 1976 are eligible termination payments. Income maintenance payments to which employees are entitled under Determination 509 during periods of formal notice of redundancy - including periods subsequent to early termination - do not qualify as eligible termination payments but are fully assessable in the same way as ordinary salary or wages. (emphasis added)

Although clearly in your case the income maintenance payments are not made under the Commonwealth Employees (Redeployment and Retirement) (Benefits) Regulations 1981, the income maintenance payments that you receive are similar to the payments made under those regulations.

Accordingly, it is considered that the income maintenance payments are not employment termination payments as they do not constitute a lump sum payment but represent income which is fully assessable in the same way as ordinary salary or wages.

Annuities - Paragraph 82-135(b) of the ITAA 1997

Paragraph 82-135(b) of the ITAA 1997 specifically excludes, from the meaning of "employment termination payment":

'a payment of a pension or an annuity (whether or not the payment is a superannuation fund benefit)'.

In your case, the income maintenance payments are not considered to be pension payments. However, it is necessary to consider whether the payments constitute an 'annuity'.

Subsection 995-1(1) of the ITAA 1997 defines an annuity as including:

(a) an annuity within the meaning of the Superannuation Industry (Supervision) Act 1993; or

(b) a pension, within the meaning of the Retirement Savings Accounts Act 1997.

Section 10 of the Superannuation Industry (Supervision) Act 1993 (SISA) defines an annuity as including:

...a benefit provided by a life insurance company or a registered organisation, if the benefit is taken, under the regulations, to be an annuity for the purposes of the Act.

This definition of annuity is not exhaustive. However, further guidance on the meaning and characteristics of an annuity are provided in Taxation Ruling IT 2480 (IT 2480), entitled 'Income Tax: Variable annuities' and various court cases.

Paragraph 8 of IT 2480 states there is no conclusive definition of an annuity in the tax legislation and that it is necessary to seek guidance from judicial authorities, many of which are referred in the Ruling. One definition of an annuity, which legal dictionaries generally lead to, is that cited by Lord Hanworth, M.R in Perrin v. Dickson [1930] 1 KB 107 at page 116 which states:

...annuities means, that where the annuity may be purchased with money the capital is gone and ceases to exist, and consequently, the person to be charged (tax) is the person receiving the annuity, that is the yearly sum, year by year…No capital is taxed there, because the principal has been converted into an annuity, and the annuity is chargeable (to tax).

As indicated above, one of the characteristics of an annuity is receipt of payments on a regular basis over a period of time. Further, it should be noted that, though an annuity is generally a fixed annual amount, an annuity can be paid in instalments throughout a year as shown in Watkins v Deputy Commissioner of Taxation (WA) (1946) 49 WALR 63; (1946) 3 AITR 263; (1946) 8 ATD 78 where monthly payments paid under an insurance policy were treated as annuities.

Though the case referred to in paragraph 8 relates to a purchased annuity it should be noted an annuity does not necessarily have to be purchased. An annuity can be derived under a will or a settlement (Levin v. Commissioner of Taxation (NZ) (1912) 31 NZLR 717; (1912) 14 GLR 604) or, as in Lady MR Ewing v. DFC of TR & McG (1928-1930) 46; Williamson v. Ough (1936) 20 TC at page 211), an annuity can be income even though it is paid out of corpus.

Apart from being a regular payment, other characteristics of an annuity are:

(i) In the case of a purchased annuity the capital amount is transformed into income as stated in Egerton-Warburton v. D.F.C of T. (1934) 51 CLR 568 at page 573:

…in the ordinary case of the purchase of a life annuity for cash, the annuity is income into which capital laid out has been transformed.. An annuity means where an income is purchased with a sum of money, and the capital has ceased to exist, the principal having been converted into an annuity', (per Watson B, Foley v. Fletcher). 'An annuity means generally the purchase of an income and usually involves a change of capital into income, payable annually over a number of years'. (per Matthew LJ, Scoble v. Secretary of State in Council for India [1903] 1 KB 494 at p.504).

(ii) The annuity must be a sum certain, that is, there needs to be certainty of the payments to be received and a period for which they are to be received as reflected in FCT v. Knight (1983) 83 ATC 4096 (Knight's Case) at page 4106; 14 ATR 1 at pages 12-13 where Kelly J referred to the following words of Barton J in D.F.C of Land Tax, Sydney v. Hindmarsh (1912) 14 CLR 334 at page 338:

…According to Co.Litt., 144b, an annuity is a 'yearly payment of a certain sum of money granted to another in fee for life or years, charging the person of the grantor only'. Viner's Abridgment,m vol.II., p.504, repeats the definition, with further passages showing that the sum need not be payable each year if only it is a yearly sum. Bacon's Abridgment, vol.I., p.233, says that an annuity, strictly taken, is a yearly payment of a certain sum of money granted to another …for life or years…, charging the person of the grantor only..

The textbooks generally adopt the definition in Co.Litt.; no case was found in which any other definition was offered; nor any case in which an indeterminate sum was held to be an annuity.

It is therefore a characteristic of an annuity that it be of a sum certain

In IT 2480 this characteristic is also detailed in paragraphs 18 and 19 which state:

18. The fundamental feature of an annuity is the certainty of the payments to be received under the contract. The contract must state what the annuitant's annual entitlement is and the period for which it is payable and, if that stated entitlement can be varied, the contract must state the basis on which variation can be made. A contract without this underlying feature cannot be accepted as an annuity.

19. The Courts have clearly indicated that the regular payments must arise from the annuity contract. It is also clear that the regular payments must be of a sum certain…

It should also be noted that a variation of a sum certain can also be present in annuity as confirmed in Knights Case at p 4106 where Kelly J stated:

The element of certainty in the sum pay able is sufficiently satisfied, I think, because by calculation and upon the happening of certain events it becomes certain even though it may vary from year to year. The basic figure is certain.

The above comments by Justice Kelly indicate variations of payments can occur and be accepted where the variation is calculated by application of a stated basis, for example, a formula, to the basic sum payable under a contract. An annuity indexed at a stated rate (e.g. the CPI rate) is an example of an acceptable variation.

(iii) The instalment amounts, the payments, should not be merely a repayment of a capital sum. To determine what is being paid, that is, income or capital, the true nature of the transaction is required as highlighted by Sir Wilfrid Greene M.R in Sothern-Smith v. Clancy [1941] 1 KB 276 at page 282:

It is clear that an annuity or other annual payment falls to be struck with tax as being an 'annual profit or gain' and this is the reason why it becomes necessary to examine the nature of an annual payment in order to see whether it is in truth an income or a capital payment - a question which cannot be answered merely by pointing to the fact that it is annual. Questions of this kind are notoriously difficult and give rise to distinctions of a highly artificial character. The present case is no exception.

It is no doubt true to say that in order to answer the question the real nature of the transaction must be ascertained.

In the same case, Goddard LJ said, at p.293:

The fine distinction between an annuity properly so called for tax purposes and an annual payment which is in truth a capital payment, whether in discharge of a pre-existing debt or not , has repeatedly been emphasized, and no sure or simple test has or can be laid down for the solution of this problem. The only principle that I can deduce from the cases is that the court must have regard to the true nature of the transaction from which the annual payment arises and ascertain whether or not it is the purchase of an annual income in return for the surrender of capital.

In view of the above, the income maintenance payments payable to you are considered to possess the characteristics of an annuity as:

(i) they are regular payments in that they are to be made monthly for a specified period in accordance with the Agreement;

(ii) the amounts to be paid are sums certain to the extent that they shall be calculated as specified in the Agreement. Although the sums may vary, how the calculation is made in various circumstances is present; and

(iii) the income maintenance payments do not represent a purchased annuity as there was no outlay of capital to create an income. The income maintenance payments which arise from the Agreement represents an income stream. Accordingly, these payments do not in any form represent instalments of a capital sum.

As the income maintenance payments are considered to be an annuity, that is, an income stream, they are accordingly excluded from being employment termination payments under paragraph 82-135(b) of the ITAA 1997.

Employment termination payments - lump sum payments

Although it is recognised that, in some circumstances, an employment termination payment that would otherwise be made as a single payment may be payable in instalments, this does not overturn the characterisation of the total payment as an employment termination payment rather than ordinary income.

Where the amount of a lump sum payment is calculated by reference to the income of the recipient (for example, a severance payment calculated on the basis of 2 weeks pay per year of service) this would not change the nature of the payment. The former level of income of the recipient is merely used as the basis for calculating the quantum of the payment.

The amount in such circumstances is paid as a lump sum to compensate for the loss of employment and not periodically in the manner of ordinary income as was paid before the termination of employment.

On the other hand, income maintenance payments are designed to maintain a taxpayer's level of income for a specified period commensurate with that received prior to the termination of employment. It is for this reason that the income maintenance payments are reduced by the amount received from other sources of employment.

In the present case, under the Agreement, a retrenched employee would be entitled to a specified lump sum payment which takes into account each completed year of eligible service. The retrenched employee could, however, elect to receive income maintenance payments for a specified period instead of the lump sum. The income maintenance payments would be reduced to reflect any income received from new employment.

It is noted that the income maintenance payments payable under the Agreement can also be made where an employee is redeployed at a lower classification. The payments made will be at the rate necessary to bring their salary up to the salary received immediately before the date of redeployment.

This clearly shows that the income maintenance payments are designed to compensate the redeployed or retrenched employee for the loss of income arising from the loss of their former position. This is evident from the fact that the amount of the income maintenance to be received is reduced by the any amounts of income received, including salary and wages from obtaining a new job.

On the other hand, the alternate lump sum payment, calculated by reference to years of service, is intended to compensate the retrenched employee for the loss of employment. The fact that the retrenched employee may be subsequently employed by a third party and receive salary or wages in respect of that subsequent employment, will not impact on the amount of the lump sum to be received.

In the case of income maintenance payments, the income stream paid after the termination takes its character from the salary and wages paid before termination, both in the amount and the method of payment. This is regardless of whether the income maintenance payments commenced before or after the termination of employment.

As income maintenance payments are designed to cover loss of income arising for the loss of a position they are to be treated as assessable income under section 6-5 of the ITAA 1997.

Income or capital payments

Whether an amount is of an income or capital nature has been discussed in various cases by the courts. Some of these cases are:

· Federal Commissioner of Taxation v. Dixon (1952) 26 ALJ 505; [1953] ALR 17; (1952) 10 ATD 82; (1952) 86 CLR 540;

· Commissioner of Taxation v. Inkster (1989) 89 ALR 137; (1989) 89 ATC 5142; (1989) 20 ATR 1516; (1989) 24 FCR 53; and

· Tinkler v. Commissioner of Taxation (1979) 29 ALR 663; (1979) 79 ATC 4641; (1979) 10 ATR 411; (1979) 40 FLR 116.

The courts have considered the factors below are relevant in determining whether these payments have been correctly treated as assessable under the ordinary concepts of income. The above mentioned cases support this conclusion.

A payment has the character of income in the hands of an employee where:

· an employee has a high expectation that the payments will be paid every fortnight or monthly for an arranged period of time;

· the payments are made in relation to the employee's employment;

· the payment represents a substitute or replacement of income to maintain the employee's level of income that applied at the time of retrenchment or a transfer to a lower classified position;

· the payment is likened to regular compensation payment for loss of income, which is considered to be income under ordinary concepts.

In this case, the income maintenance payments are intended to ensure that for a specified period your level of income will be the same as that received prior to the termination of your employment. The amount payable is reduced by any amount that you receive by way of unemployment benefits or salary and wages through alternative employment during the income maintenance period.

As shown in facts the income maintenance payments are payable monthly and only as a result of you submitting to the Employer a declaration of your employment income for each month. Therefore, regardless of whether you are employed, for part or all of the income maintenance period, you would be required to lodge a declaration on a monthly basis to receive an income maintenance payment for that month.

Accordingly, it is considered that the income maintenance payments do not represent a single lump sum amount paid in instalments and the payments are income in nature.

Even though the payments are paid under a redundancy clause they are still periodic payments which are replacing salary and wages. The payments are an income stream paid regularly for a specified period to make your income equivalent to your salary and wages at the time of your termination of employment from the Employer.

As the payments are a regular income stream and not a single payment being paid in instalments, they are not employment termination payments but a substitute for salary and wages.

Genuine redundancy payment

A payment made to an employee, after 30 June 2007, is a genuine redundancy payment (GRP) if it satisfies all the criteria set out in section 83-175 of the ITAA 1997.

Section 83-175 of the ITAA 1997 states:

(1) A genuine redundancy payment is so much of a payment received by an employee who is dismissed from employment because the employee's position is genuinely redundant as exceeds the amount that could reasonably be expected to be received by the employee in consequence of the voluntary termination of his or her employment at the time of dismissal.

(2) A genuine redundancy payment must satisfy the following conditions:

(a) the employee is dismissed before the earlier of the following:

(i) the day he or she turned 65;

(ii) if the employee's employment would have terminated when he or she reached a particular age or completed a particular period of service - the day he or she would reach the age or complete the period of service (as the case may be);

(b) if the dismissal was not at arms length - the payment does not exceed the amount that could reasonably be expected to be made if the dismissal were at arms length;

(c) at the time of the dismissal, there was no arrangement between the employee and the employer, or between the employer and another person, to employ the employee after dismissal.

(3) However, a genuine redundancy payment does not include any part of a payment that was received by the employee in lieu of superannuation benefits to which the employee may have become entitled at the time the payment was received or at a later time.

Payments not covered

(4) A payment is not a genuine redundancy payment if it is a payment mentioned in section 82-135 (apart from paragraph 82-135(e)).

Further, the Commissioner has issued Taxation Ruling TR 2009/2 (TR 2009/2), titled 'Income Tax: genuine redundancy payments' in which he provides guidance on the factors to be considered in the interpretation of section 83-175 of the ITAA 1997.

It is only in light of the above provisions in the tax legislation, and Commissioner's opinion in TR 2009/2, that it is decided whether a payment made to a taxpayer is an GRP and whether concessional tax treatment applies to that payment. Therefore, if other agencies or authorities (for example, another government department, a superannuation fund etc) classify a payment as a redundancy payment, or the recipient is viewed as being made redundant, it does not mean that the Commissioner will automatically treat the payment as a GRP or view the recipient as being made genuinely redundant.

In your case you were dismissed from employment due to your position being made redundant. This however does not mean that payments made as a result of the redundancy are to be treated as a GRP.

As mentioned previously, for a payment to be a GRP all of the conditions in section 83-175 of the ITAA 1997 must be satisfied. The need for all conditions to be satisfied also appears in paragraph 12 in TR 2009/2 which states:

The satisfaction of this requirement [the payment be in consequence of termination of employment due to a dismissal by way of redundancy] establishes the essential character of the payment. However, there are further conditions that must also be satisfied before a payment can be treated as a genuine redundancy payment.

Notwithstanding you were dismissed due to your position being made redundant it must be noted that one of the conditions to be satisfied in section 83-175 of the ITAA 1997 is subsection 83-175(4). Subsection 83-175(4) states a payment is not a GRP if it is a payment mentioned in section 82-135 of the ITAA 1997 (other than a GRP or early retirement scheme payment).

As discussed earlier, the income maintenance payments you receive represent an annuity, an income stream which is payable for a specified period of time. Paragraph 82-135(b) of the ITAA 1997 excludes income streams whether or not they are superannuation benefits.

Accordingly, subsection 83-175(4) of the ITAA 1997 will exclude the income maintenance payments from being GRPs. Consequently, it is not necessary to address the other conditions in section 83-175.

As the income maintenance payments are not GRPs, no part of those payments can be tax-free under section 83-175 of the ITAA 1997.

Taxation of income maintenance payments

The assessable income of a taxpayer can consist of both ordinary income and statutory income.

Ordinary income, an example of which is salary and wages, is an amount that is income according to the ordinary meaning of the term as developed by the courts (in cases such as Federal Commissioner of Taxation v. Dixon (1952) 26 ALJ 505; [1953] ALR 17; (1952) 10 ATD 82; (1952) 86 CLR 540; FC of T v. Smith (1981) 147 CLR 578; (1981) 55 ALJR 229; (1981) 34 ALR 16; (1981) 11 ATR 538; (1981) 81 ATC 4114; [1981] HCA 10 and Keily v. Federal Commissioner of Taxation (1983) 32 SASR 494; (1983) 14 ATR 156; (1983) 83 ATC 4248 and generally includes receipts that:

· are earned;

· are expected;

· are relied upon; and

· have an element of periodicity, recurrence or regularity.

Further it should be noted amounts treated as ordinary income do not infer that the income has to arise from normal activities or events, rather the treatment reflects the nature and manner of the payment/s. Thus, payments made as a result of an event such as a termination of employment, may be treated as ordinary income if the payments possess the nature and characteristics of ordinary income, that is, income under ordinary concepts.

Statutory income, on the other hand, is an amount that is not ordinary income but is specifically included as assessable income by a particular provision of either the ITAA 1936 or the ITAA 1997. An example of statutory income is a net capital gain which is included as assessable income under section 102-5 of the ITAA 1997.

As already noted, the income maintenance payments are considered to be a replacement for salary or wages. The payments are regular periodic payments payable over fourteen months and are therefore ordinary income assessable in the same way as ordinary salary or wages.

Conclusion: The income maintenance payments payable are neither employment termination payments nor genuine redundancy payments as they represent income under ordinary concepts.

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