Disclaimer
This edited version has been archived due to the length of time since original publication. It should not be regarded as indicative of the ATO's current views. The law may have changed since original publication, and views in the edited version may also be affected by subsequent precedents and new approaches to the application of the law.

You cannot rely on this record in your tax affairs. It is not binding and provides you with no protection (including from any underpaid tax, penalty or interest). In addition, this record is not an authority for the purposes of establishing a reasonably arguable position for you to apply to your own circumstances. For more information on the status of edited versions of private advice and reasons we publish them, see PS LA 2008/4.

Edited version of your private ruling

Authorisation Number: 1012484841518

Ruling

Subject: Employment termination payment - transfer payment and retention bonus

Issue 1

Question:

Will the transfer payment made to employees who transfer their employment to another employer, as a result of the outsourcing of certain business functions to the other employer, be an employment termination and subject to Pay-As-You-Go (PAYG) withholding tax instalments?

Answer:

Yes

Issue 2

Questions

1. Will the payment, described as a 'retention bonus', paid to a key staff member at termination of employment on completion of an agreed term be an employment termination payment and subject to PAYG withholding tax instalments?

2. If the 'retention bonus' is a employment termination payment, will any part of the payment be the tax-free part of a genuine redundancy?

Answers:

This ruling applies for the following period

Year ended 30 June 2014

The scheme commenced on

1 July 2013

Relevant facts and circumstances

Issue 1

Issue 2

Relevant legislative provisions

Income tax Assessment Act 1997 Section 82-130.

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

Income tax Assessment Act 1997 Paragraph 82-130(1)(a).

Income tax Assessment Act 1997 Paragraph 82-130(1)(b).

Income tax Assessment Act 1997 Subsection 82-130(2).

Income tax Assessment Act 1997 Subsection 82-130(4).

Income tax Assessment Act 1997 Sub-paragraph 82-130(4)(a).

Income tax Assessment Act 1997 Subsection 82-130(5).

Income tax Assessment Act 1997 Subsection 82-130(7).

Income tax Assessment Act 1997 Subsection 82-130(2).

Income tax Assessment Act 1997 Section 82-140.

Income tax Assessment Act 1997 Section 82-145.

Income tax Assessment Act 1997 Section 82-175.

Income tax Assessment Act 1997 Section 995-1.

Income tax Assessment Act 1997 Section 82-155.

Taxation Administration Act 1953 Section 12-85.

Reasons for decision

Summary

The transfer payments to be received by eligible employees because of the termination of their employment with the employer and accept employment with the service contractor are employment termination payments.

The retention bonus to be made to a key staff member is considered an employment termination payment. No part of the payment will be exempt from tax as a genuine redundancy payment. The retention bonus is to be paid for the completion of the project on the agreed terms and meeting the key performance indictors; not because the key staff member's employment is to be made redundant.

Detailed reasoning

1. Employment termination payment

An employment termination payment, where the payment is made during the life of a taxpayer, is known as a life benefit termination payment (subsection 82-130(2) of the Income Tax Assessment Act 1997 (ITAA 1997)).

Section 995-1 of the ITAA 1997 states:

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

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

To determine if the transfer payments are employment termination payment all the conditions in section 82-130 of the ITAA 1997 will need to be satisfied.

Failure to satisfy any of the conditions will result in the TSP 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. The Commissioner has also issued Taxation Ruling TR 2003/13 which discusses the meaning of the phrase.

In paragraph 5 of TR 2003/13 the Commissioner states:

As further stated by the Commissioner in paragraph 6 of TR 2003/13, there must be:

Also in paragraph 5 of TR 2003/13 the Commissioner notes that the Courts have considered the meaning of the words in consequence of in several cases.

Of note are the decisions made by the Full Bench of the High Court in Reseck v. Federal Commissioner of Taxation1 (Reseck) and the Full Federal Court in McIntosh v Federal Commissioner of Taxation2 (McIntosh).

In Reseck, Justice Gibbs stated:

While Justice Jacobs, in the same case, stated:

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

Suffice to say, the view of both Courts was that for a payment to be made in consequence of the termination of employment it had to follow on as a result or effect of the termination of employment. Additionally, 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 Taxation3 (Le Grand), where Justice Goldberg stated:

Justice Goldberg concluded that the test for determining when a payment is made in consequence of the termination of employment is that which was expressed 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. As noted in both paragraphs 6 and 28 of TR 2003/13, there must be 'a causal connection between the termination and the payment even though the termination need not be the [sole or] dominant cause of the payment'.

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. Hence the payment will be an employment termination payment unless the payment is specifically excluded under section 82-135.

In the present case, the relevant facts in respect of outsourcing of their particular business unit (the Unit) indicate that eligible employees of the employer will be able to elect whether to remain employed with employer or to transfer their employment to the appointed service contractor of the employer.

Employees who take up positions with the service contractor will cease employment with the employer.

The transfer payment is only payable on the condition that eligible employees have had their employment terminated with the employer and accept the offer and commence employment with the service contractor. The payment of the transfer payment follows as an effect or result of the termination and the payment would not have been made to the eligible employees but for the termination of their employment with the employer.

In view of the above, the payment of the transfer payment is made in consequence of the termination of employment and is therefore an employment termination payment under section 82-130 of the ITAA 1997.

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

The second requirement under section 82-130 of ITAA 1997 is that the payment be made within12 months of the termination of employment. Payments made outside 12 months will be taxed as ordinary income at marginal tax rates.

In the current case, the employer advised that the transfer payments will be made within 12 months of termination of employment.

Accordingly, the requirement under paragraph 82-130(1)(b) of ITAA 1997 will be satisfied.

The payment is not a payment specifically excluded under section 82-135

The third condition for the payment to meet the criteria, as an employment termination payment is stated under paragraph 82-130(1)(c) of the ITAA 1997, is that the payment must not be specifically excluded under section 82-135.

Section 82-135 of the ITAA 1997 provides that certain payments are not employment termination payments, including:

On the basis of the information provided by the applicant, it is considered that the payments are not payments that are specifically excluded under section 82-135 of the ITAA 1997. Therefore the condition under paragraph 82-130(1)(c) has been met.

As the payments made or to be made to the eligible employees satisfy all the conditions under subsection 82-130(1) of the ITAA 1997, the payments are employment termination payments for the purposes of section 82-130.

It should be noted that an employment termination payment cannot be rolled over into a complying superannuation fund.

2. Retention bonus

In relation to this issue it is necessary to determine whether the payment described as a 'retention bonus' paid to a key staff member at termination of employment on completion of an agreed term will be an employment termination payment.

As previously mentioned, the question of whether a payment is made in consequence of the termination of employment will be determined by the relevant facts and circumstance of each case.

In this case, the key staff member's employment agreement with the employer, the key staff member will be entitled to receive the retention bonus if the following conditions are met:

It can be seen from the above the retention bonus will be made to the key staff member on the termination of the key staff member's employment with the employer on the completion date of the project. In addition to the completion date, the key staff member also needs to meet the KPI to receive the retention bonus. Therefore, the retention bonus is made as 'in consequence of' the key staff member's termination of employment. As such, there is a direct causal connection between the termination of employment and the making of the retention bonus

The termination of employment and the retention bonus are all intertwined and connected. If not for the termination of employment on the intended completion date, the retention bonus will not be made. In particular, the payment of the retention bonus is conditional on the key staff member remaining in employment with the employer until the intended completion date and meeting the KPI.

It is considered that there is sufficient nexus between the making of the payment and the termination of employment to say that the payment is being made in consequence of the key staff member termination of employment.

Genuine redundancy payment

The Commissioner is now to consider will any part of the retention bonus be the tax-free part of a genuine redundancy payment.

Section 83-175 of the ITAA 1997 states:

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

In discussing what constitutes a genuine redundancy payment in accordance with subsection 83-175(1) of the ITAA 1997, paragraph 11 of TR 2009/2 states:

It should be noted that whether the key staff member's employment is to be terminated on account of a genuine redundancy is not a matter to determine by the Commissioner. It is the ultimate decision of the employer that the dismissal must be caused by the redundancy of the key staff member's position.

Whilst the legislative provision governing genuine redundancy will determine the extent of the liability of an employee to income tax on payments received or to be received, it does not affect the liability of an employer to income tax. The only impact on an employer is in relation to the amount of tax they will be required to withhold from the payments.

In this case, the key staff member will have a separate redundancy entitlement on termination of employment with the employer, in accordance with the key staff member's employment contract.

In respect of the retention bonus, it is the Commissioner's view that the bonus arises from an agreement where the key staff member agreed to remain with the employer until the completion date of the agreed employment contract. Further, the retention bonus is contingent upon the completion of the agreed project and the key staff member's continued employment with the employer on the specific date.

The retention bonus is only payable on the condition that the key staff member fulfils the full term of employment contract and meeting the KPI. The bonus will not be made if the key staff member does not meet the KPI. The bonus is linked with the performance of the key staff member and not because of the key staff member's position being redundant. Accordingly, no part of the retention bonus will be the tax-free part of a genuine redundancy payment.

3. Taxation Treatment

An employment termination payment will be comprised of the following components:

The tax free component is not assessable income and is not exempt income.

The taxable component is included, in full, as assessable income.

The taxable component is subject to tax, depending on the person's age when the payment is received.

4. PAYG Withholding

Section 12-85 of Schedule 1 of the Taxation Administration Act 1953 (TAA) states:

As shown above, the payment to be made to the eligible employees is an employment termination payment. Therefore, an amount must be withheld.

The amount to withhold depends on whether a Tax File Number (TFN) has been provided.

If a TFN has not been provided before the payment is made, tax must be withheld at the rate of 46.5% from the taxable component. This represents the top marginal rate plus Medicare levy.

If the payee has provided the employer with a TFN, tax must be withheld at the following rates:

Income component derived in the income year

Age at the end of the income year in which the payment is received

Component subject to tax

Maximum rate of tax (including Medicare levy)

Employment termination payment (ETP) - taxable component

Under preservation age

Amount up to the ETP cap amount

31.5%

Employment termination payment (ETP) - taxable component

At or above preservation age

Amount up to the ETP cap amount

16.5%

All ages

Amount above the ETP cap amount

46.5%

For the 2012-13 and 2013-14 income years the ETP cap amount is $175,000 and $180,000 respectively.

Preservation age is the age at which retirees can access their superannuation benefits generally when they retire.

If the employee was born:

1 (1975) 49 ALJR 370; (1975) 6 ALR 642; (1975) 5 ATR 538; (1975) 75 ATC 4213; (1975) 133 CLR 45

2 (1979) 25 ALR 557; (1979) 10 ATR 13; (1979) 45 FLR 279; (1979) 79 ATC 4325

3 [2002] FCA 1258; (2002) 124 FCR 53; (2002) 195 ALR 194; (2002) 2002 ATC 4907; (2002) 51 ATR 39


Copyright notice

© Australian Taxation Office for the Commonwealth of Australia

You are free to copy, adapt, modify, transmit and distribute material on this website as you wish (but not in any way that suggests the ATO or the Commonwealth endorses you or any of your services or products).