Edited version of your private ruling

Authorisation Number: 1012410108620

Ruling

Subject: Genuine Redundancy

Question 1

Is any part of the eligible termination payment the tax-free amount of a genuine redundancy payment?

Answer

No.

Question 2

Should your client's unused annual leave payments be taxed on the basis that he was made genuinely redundant?

Answer

No.

This ruling applies for the following periods:

For the year ended 30 June 2012

The scheme commences on:

1 July 2011

Relevant facts and circumstances

Your client was an employee of Company A (the Company).

Your client's role at the Company was Managing Director and this role was occupied for 3 months during 2012.

Your client received a letter from the Company that they were placed on gardening leave during June 2012.

During June 2012, the Managing Director issued a letter to your client confirming that their employment has been terminated. It was also advised that all entitlements in accordance with their contract of employment will be made.

In a letter issued during June 2012, the Managing Director confirmed the termination of your client's employment and that it was in accordance with their contract of employment.

Your client received a number of payments from the Company upon the termination of their employment

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 83-175.

Income Tax Assessment Act 1997 Subsection 83-175(1).

Income Tax Assessment Act 1997 Subsection 83-175(2).

Income Tax Assessment Act 1997 Paragraph 83-175(2)(a).

Income Tax Assessment Act 1997 Paragraph 83-175(2)(b).

Income Tax Assessment Act 1997 Paragraph 83-175(2)(c).

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

Reasons for decision

Issue 1

Summary of decision 1

There is an effective termination of your client's employment with the Company. Accordingly, the payment made in consequence of the termination of your client's employment is considered an employment termination payment.

However, the requirements under paragraph 83-175(2)(c) of the ITAA 1997 have not been satisfied. Consequently, not all of the conditions contained in section 83-175 have been met and the payment cannot be considered a genuine redundancy payment.

Detailed reasoning

Employment termination payment

Payments made in consequence of the termination of a taxpayer's employment are known as employment termination payments.

Section 995-1 of the Income Tax Assessment Act 1997 (ITAA 1997) states:

employment termination payment has the meaning given by section 82-130.

Subsection 82-130(1) of the ITAA 1997 states:

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 the termination (but see subsection (4)); and

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

Therefore, a number of conditions need to be satisfied in order for the payment to be treated as an employment termination payment.

Failure to satisfy any of the conditions will result in the payment not being considered an employment termination payment.

Payment is made in consequence of the termination of employment

The first condition to be met is that the payment is received by the person in consequence of the termination of their employment.

The phrase 'in consequence of' is not defined in the ITAA 1997. However, the words have been interpreted by the courts in several cases.

Of note are the decisions made by the Full Bench of the High Court in Reseck v. Federal Commissioner of Taxation (1975) 49 ALJR 370; (1975) 6 ALR 642; (1975) 5 ATR 538; (1975) 75 ATC 4213; (1975) 133 CLR 45 (Reseck) and the Full Federal Court in McIntosh v Federal Commissioner of Taxation (1979) 25 ALR 557; (1979) 10 ATR 13; (1979) 45 FLR 279; (1979) 79 ATC 4325 (McIntosh).

In Reseck, Justice Gibbs stated:

Within the ordinary meaning of the words a sum is paid in consequence of the termination of employment when the payment follows as an effect or result of the termination. It is not in my opinion necessary that the termination of the services should be the dominant cause of the payment.

While Justice Jacobs, in the same case, stated:

It was submitted that the words 'in consequence of' import a concept that the termination of the employment was the dominant cause of the payment. This cannot be so. A consequence in this context is not the same as a result. It does not import causation but rather a following on.

In looking at the phrase 'in consequence of', the Full Federal Court in McIntosh considered the decision in Reseck. In doing so the Full Federal Court emphasised that a payment may be in consequence of the termination of employment even though the termination is not the dominant cause of the payment.

In particular, Justice Brennan considered the judgments of Justice Gibbs and Justice Jacobs in Reseck and concluded that their Honours were both saying that a causal nexus between the termination and payment was required, though it was not necessary for the termination to be the dominant cause of the payment.

Thus, while it is not necessary to show that termination of employment is the sole or dominant cause, a temporal sequence alone would not be sufficient.

The phrase 'in consequence of' and the decisions in Reseck and McIntosh were considered more recently by the Federal Court in Le Grand v Federal Commissioner of Taxation [2002] FCA 1258; (2002) 124 FCR 53; (2002) 195 ALR 194; (2002) 2002 ATC 4907; (2002) 51 ATR 39 (Le Grand). In making his decision Justice Goldberg stated:

I am satisfied that there is a sufficient connection between the termination of the applicant's employment and the payment to warrant the finding that the payment was made in consequence of the termination of the applicant's employment. I am satisfied that the payment was an effect or result of that termination in the sense that there was a sequence of events following the termination of the employment which had a relationship and connection which ultimately led to the payment.

Justice Goldberg concluded that the test for determining when a payment is made in consequence of the termination of employment is that which was articulated by Justice Gibbs in Reseck. Thus, for the payment to have been made in consequence of the termination of employment, the payment must follow as an effect or result of the termination of employment.

The Commissioner has also issued Taxation Ruling TR 2003/13 (TR 2003/13) which discusses the meaning of the phrase in light of these court decisions.

In paragraph 6 of TR 2003/13, the Commissioner states that there must be:

a causal connection between the termination and the payment, although the termination need not be the dominant cause of the payment. The question of whether a payment is made in consequence of the termination of employment will be determined by the relevant facts and circumstances of each case.

Therefore, if the payment follows as an effect or a result from the termination of employment, the payment will be made in consequence of the termination of employment for the purposes of subparagraph 82-130(1)(a)(i) of the ITAA 1997.

From the facts provided, your client's employment was terminated during June 2012 and a payment was made at the end of that month.

The payment is considered to have been made in consequence of the termination of your client's employment. The payment would not have been made had there been no termination of employment. The termination of employment and the payment is intertwined and connected.

Consequently, the requirement in paragraph 82-130(1)(a) of the ITAA 1997 is satisfied.

The payment is received no later than 12 months after termination of employment

Paragraph 82-130(1)(b) of the ITAA 1997 requires that the payment must be received no later than 12 months after the termination of employment.

In the facts, it was stated that your client's employment was terminated during June 2012 and a termination payment was made at the end of the month. As the payment was made within 12 months, the requirements in subsection 82-130 (5) are considered to be met.

Not a payment mentioned in section 82-135 of the ITAA 1997

Section 82-135 of the ITAA 1997 lists payments that are not employment termination payments. These include (among others):

· superannuation benefits;

· unused annual leave or long service leave payments;

· foreign termination payments covered under Subdivision 83-D of the ITAA 1997; and

· the tax free part of a genuine redundancy payment or an early retirement scheme payment.

Relevant to this particular case is whether any part of the payment represents the tax free part of a genuine redundancy payment.

Genuine redundancy payment

A payment made to an employee is a genuine redundancy payment if it satisfies all 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 it 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 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 arm's length- the payment does not exceed the amount that could reasonably be expected to be made if the dismissal were at arm's 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))

Under subsection 83-175(1) of the ITAA 1997, a genuine redundancy payment is a payment resulting from:

(i) a dismissal; and

(ii) a redundancy.

The terms 'dismissal' and 'redundancy' are not defined in the ITAA 1997. Therefore, it is necessary to consider the ordinary meaning of the terms and the meaning the courts have ascribed to each word.

The Explanatory Memorandum to the Income Tax Assessment Amendment Act (No.3) 1984, which inserted former section 27F into the ITAA 1936 states, at page 91:

The terms 'dismissal' and 'redundancy' are not defined in the legislation and, therefore, should be given their ordinary meanings. 'Dismissal' carries with it the concept of the involuntary (on the taxpayer's part) termination of employment. 'Redundancy' carries the concept that the requirements of the employer for employees to carry out work of a particular kind, or for employees to carry out work of a particular kind in the place where they were so employed, have ceased or diminished or are expected to cease or diminish. Redundancy, however, would not extend to the dismissal of an employee for personal or disciplinary reasons or for reasons that the employee was inefficient.

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

Paragraph 11 of TR 2009/2 states:

11. There are four necessary components within the genuine redundancy requirement:

· The payment being tested must be received in consequence of a termination.

· That termination must involve an employee being dismissed from employment.

· That dismissal must be caused by the redundancy of the employee's position.

· The redundancy payment must be made genuinely because of a redundancy.

Each of the requirements will be discussed individually.

The payment is in consequence of the termination of employment

The issue of whether the payment received was made in consequence of the termination of your client's employment was discussed above. It was determined that the payment would be considered to be made in consequence of your client's termination of employment. Therefore the requirement that the payment must be received in consequence of a termination is met.

Dismissal from employment

Dismissal requires a termination of employment at the initiative of the employer without the consent of the employee.

At paragraphs 19 to 20 and 21 of TR 2009/2, the following is stated:

19. Consent in this context refers to the employee freely choosing to agree or approve the act or decision to terminate employment in circumstances where the employee has the capacity to make such a choice. Determining whether an employee has consented to their termination requires an assessment of the facts and circumstances of each case. Consent may be either expressly stated by the employee or implied by their behaviour or conduct.

20. A dismissal can still occur even where an employee has indicated that they would be interested in having their employment terminated, provided that the final decision to terminate employment remains solely with the employer. Such a case may arise where expression of interest in receiving a redundancy package are sought from the employees as part of a structured process undertaken by the employer as a means of promoting industrial harmony.

21. Where an employee is given notice from their employer that they will be terminated at a specified time in the future due to genuine redundancy, that employee will be dismissed because of redundancy for the purposes of section 83-175. This will be the case even where an employee, following notification, negotiates with the employer or nominates to end their employment at an earlier time. Negotiation or nomination of an earlier date relates to the timing of the termination and not to the character of the termination as a dismissal. In determining whether any payment made in these circumstances would qualify as a genuine redundancy payment, the other conditions in section 83-175 would still need to be met.

In your client's situation, the Company notified your client of the termination of their employment during June 2012 via an email.

Further, the Company also issued a letter to your client during June 2012 which confirmed the termination of your client's employment.

The facts provided indicate that your client was dismissed from employment by the Company as a termination date was specified and your client's entitlements have been made to him. Accordingly, the second requirement of a genuine redundancy has been met.

Dismissal caused by redundancy

Section 83-175 of the ITAA 1997 requires that the dismissal be caused by redundancy of the employee's position, and not for some other reason. Redundancy must be the reason for termination of employment by way of dismissal.

At paragraphs 25 to 27 of TR 2009/2, the Commissioner makes the following comments regarding dismissal and redundancy:

25. An employee's position is redundant when an employer determines that it is superfluous to the employer's needs and the employer does not want the position to be occupied by anyone. Accordingly, it is fundamentally the employer's decision that a position is redundant. On occasion the decision may be unavoidable due to the circumstances of the employers operations.

26. In some circumstances, an employer may reallocate the duties and functions attached to a particular position to another position within the employer's organisational structure. In such cases, the former position is redundant. However, if the employee who had been working in that position is still employed by the employer following the reallocation of duties and functions, there will not be a dismissal.

27. On the other hand, if an employer decides after a structural reorganisation to terminate an employee, the former position of the employee is effectively redundant as long as the reorganisation is the prevailing or most influential cause of the termination.

The Commissioner expands on the issue of determining the cause of dismissal at paragraphs 268 to 271 of TR 2009/2:

268. There are various reasons why an employee may be dismissed from employment. Redundancy may be only one of these reasons.

269. In circumstances where more than one reason can be identified for the dismissal, the Commissioner considers that redundancy must be the primary cause of the dismissal. This suggests an analysis of what is the prevailing or most influential cause of the dismissal. This question is to be answered in light of the facts and circumstances of each case.

270. The classic context for redundancy is the closure, downsizing or reorganisation of part or all of the employers operations. Redundancy can readily be established as the prevailing or most influential cause of dismissal in the first two of these scenarios.

271. Where an employer dismisses an employee after a reorganisation of duties, functions and responsibilities, a more careful analysis is required. A restructure of an organisation does not necessarily import redundancy where employees are dismissed following the reallocation or restructure. In these circumstances, it is necessary to consider what impact the restructure had on the duties, functions and responsibilities formerly fulfilled by the dismissed employee.

It is evident from the above that if the prevailing or most influential cause of termination was not redundancy, notwithstanding that the position occupied by a dismissed employee may have been abolished, the dismissal would not constitute a redundancy.

Furthermore, the Commissioner has outlined on what constitutes a dismissal caused by redundancy at paragraphs 262 and 263:

262. … it should be noted that Bray CJ's description of what can constitute redundancy is not expressed to be exclusive. His Honour's description was cast in terms of a 'job' in the sense of a collection of functions, duties and responsibilities entrusted, as part of the scheme of the employer's organization, to a particular employee. However, it is within the employer's prerogative to rearrange the organizational structure by breaking up the collection of functions, duties and responsibilities attached to a single position and distributing them among the holders of the other positions, including newly-created positions. It is inappropriate now to attempt an exhaustive description of the methods by which a reorganization of that kind may be achieved. One illustration of it occurs when the duties of a single, full-time, employee are redistributed to several part-time employees. What is critical for the purpose of identifying a redundancy is whether the holder of the former position has, after the re-organization, any duties left to discharge. If there is no longer any function to be performed by that person, his other position becomes redundant in the sense in which the word was used in the Adelaide Milk Co-operative case.

263. Accordingly, this approach focuses on the underlying reality or substance of the position, that is, the existence of the functions, duties and responsibilities attached to a position. It does not focus on whether the position, in terms of a name or position number, has been abolished. A position is redundant when the functions, duties and responsibilities formerly attached to the position are determined by the employer to be superfluous to the current needs and purposes of the organisation.

From the facts provided, the Company has clearly indicated that no redundancy has occurred as your client's role will be replaced by another individual upon the termination of their employment. This was specifically stated in the letter issued during June 2012.

Given the above, the conclusion that must be drawn is that your client's termination of employment was not caused directly by the organisational restructure that took place. The Company has stated very clearly in the letter issued to your client that no redundancy situation arose.

According to Fair Work Australia, a person's dismissal is a case of genuine redundancy if:

the person's employer no longer required the person's job to be performed by anyone because of changes in the operational requirements of the employer's enterprise

Based on the facts provided, your client's position is still required by the Company and there was no evidence to substantiate the fact that his position in any way has been abolished and his duties distributed to other individuals. Consequently, it is considered that the prevailing, or most influential, cause of the termination of your employment was not redundancy.

As it is considered that the dismissal was not caused by the redundancy of your client's position, the third requirement of a genuine redundancy has not been satisfied.

The redundancy payment must be made genuinely because of a redundancy

It should be noted that whether a redundancy is genuine is determined on an objective basis.

In this case, from the facts provided, it is not evident that there has been a redundancy as discussed above. Therefore the fourth requirement of a genuine redundancy payment has not been satisfied.

Further conditions for a genuine redundancy payment

Before a payment that meets the basic redundancy requirement in subsection 83-175(1) of the ITAA 1997 qualifies as a genuine redundancy payment, all the other conditions in section 83-175 must be met. These conditions include:

· The payment must be made before the person turns 65 or an earlier mandatory age of retirement;

· The payment must be made before the end of a fixed period of employment;

· The payment must not exceed an arm's length amount in the event that the employer and employee are not dealing at arm's length;

· There must be no stipulated arrangement to employ the person after the termination; and

· The payment must not be in lieu of superannuation benefits.

The facts indicate that all the above conditions in section 83-175 of the ITAA 1997 have been met. In this respect, it is noted that your client and his employer were dealing at arms length, was not for a fixed term, no existing arrangements after termination and no superannuation benefits included in the termination payment made.

Conclusion

The requirements under paragraph 83-175(2)(c) of the ITAA 1997 have not been satisfied. Consequently, not all of the conditions contained in section 83-175 have been met and the payment cannot be considered a genuine redundancy payment.

The payment your client received from his employer is an employment termination payment under subsection 82-130(1) and should be included in your income tax assessment in the 2011-12 income year.

Issue 2

Question 2

Should your client's unused annual leave payments be taxed on the basis that he was made genuinely redundant?

Summary of decision 2

Your client's unused annual leave payment will not be taxed on the basis that they were made genuinely redundant as the requirements under paragraph 83-175(2)(c) of the ITAA 1997 have not been satisfied.

The payment will be included in your client's assessable income in the 2011-12 income tax return.

Detailed reasoning

Payments excluded from being ETPs and GRPs

The requirement specified in paragraph 82-130(1)(c) of the ITAA 1997 is that the payment is not a payment mentioned in section 82-135 of the ITAA 1997. As noted above, section 82-135 of the ITAA 1997 provides that certain payments are not ETPs, including:

· an unused annual leave payment within the meaning of section 83-10 of the ITAA 1997 (paragraph 82-135(c)); or

· the tax-free part of a GRP or an early retirement scheme payment worked out under section 83-170 (paragraph 82-135(e)).

Accordingly, unused annual leave payments are not ETPs and GRPs as section 82-135 of the ITAA 1997 specifically excludes them.

Further, subsection 83-10(2) of the ITAA 1997 states:

Your assessable income includes an unused annual leave payment that you receive.

Thus, the unused annual leave payment will be included in your client's assessable income in their 2011-12 income tax return.

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