Edited version of your written advice

Authorisation Number: 1012785264708

Ruling

Subject: Is there an obligation to withhold PAYG from a lump sum payment made to an employee

Question 1

Is there an obligation on the entity under section 12-120 of Schedule 1 to the Taxation Administration Act 1953 (TAA) to withhold from a lump sum payment made to an employee for permanent injury which occurred at work?

Answer

No

Question 2

Is the company excepted from withholding an amount under section 12-1(1A) of Schedule 1 to the TAA from a payment made to an employee?

Answer

No

This ruling applies for the following period

Year ending 30 June 2015

The scheme commenced on

1 July 20XX

Relevant facts

An employee was injured at the workplace.

The employee was awarded a payment for personal injury under a total & permanent disablement policy. i.e. compensation for their inability to be employed.

The employee was awarded a gross amount in accordance with the group policy (under total and permanent disability) in respect of permanent impairment from injury.

The payment was not for reimbursement of medical expenses, or direct compensation for loss of income.

The employee received a net amount.

Prior to paying the net amount to the employee the entity withheld an amount of PAYG W from the gross payment.

Relevant legislative provisions

Schedule 1 to the Taxation Administration Act 1953 Section 12-1(1A)

Schedule 1 to the Taxation Administration Act 1953 Section 12-120

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

Income Tax Assessment Act 1997 Section 6-10

Income Tax Assessment Act 1997 Paragraph 118-37(1)(a)

Reasons for decision

Question 1

Section 12-120 of Schedule 1 to the TAA states an entity must withhold an amount from a payment of compensation, or of sickness or accident pay, it makes to an individual if the payment:

(a) is made because of that or another individual's incapacity for work; and

(b) is calculated at a periodical rate; and

(c) is not a payment made under an insurance policy to the policy owner.

In this case the payment was made because of the employee's incapacity for work, however it was not calculated at a periodical rate as it was paid for personal injury under a total & permanent disablement policy and not as a compensation payment to reflect the fact that the amount paid was for lost salary, wages or other earnings that would normally be subject to PAYG withholding. The amount was paid as compensation for the employee's inability to be employed. The payment was also a payment made under an insurance policy to the policy owner (the company). As only one of the required conditions under section 12-120 has been met there is no obligation to withhold from the payment made to the employee.

Question 2

There are general exceptions to PAYG Withholding. One of the exceptions is outlined under Section 12-1(1A) of Sch 1 to the ATA. It states an entity need not withhold an amount under Subdivision 12-B, Subdivision 12-C or section 12-120 or 12-190 from a payment if the whole of the payment is not assessable income and not exempt income of the entity receiving the payment.

Assessable income

Subsection 6-5(2) of the Income Tax Assessment Act 1997 (ITAA 1997) provides that the assessable income of a resident taxpayer includes ordinary income derived directly or indirectly from all sources during the income year.

Ordinary income has generally been held to include 3 categories, namely, income from rendering personal services, income from property and income from carrying on a business.

Other characteristics of income that have evolved from case law include receipts that:

• are earned

• are expected

• are relied upon, and

• have an element of periodicity, recurrence or regularity.

In this case the lump sum payment was not earned by the employee as it does not directly relate to services performed. Rather, the lump sum relates to the loss of physical abilities. The payment is also a one-off payment and thus does not have an element of recurrence or regularity. Although the payment can be said to be expected, and perhaps relied upon, this expectation arises from the investment in insurance, rather than from a relationship with personal services performed. Thus, the lump sum payment is not ordinary income and is therefore not assessable to the employee under subsection 6-5(2) of the ITAA 1997.

Exempt income

Section 6-10 of the ITAA 1997 provides that amounts that are not ordinary income but are included in assessable income by another provision, are called statutory income and are also included in assessable income.

Amounts received in respect of personal injury, which are not for reimbursement of medical expenses, or direct compensation for loss of income will usually be capital in nature and are potentially taxable as statutory income under the capital gains tax provisions of the ITAA 1997.

Taxation Ruling TR 95/35 deals with the capital gains treatment of compensation receipts. The ruling advocates a 'look-through' approach, which identifies the most relevant asset to which the compensation amount is most directly related.

Paragraph 11 of TR 95/35 states that if an amount is not received in respect of an underlying asset, the amount relates to the disposal by the taxpayer of the right to seek compensation.

As the amount paid to the employee is not in respect of any underlying asset, the whole of the settlement amount is treated as capital proceeds from a CGT event (CGT event C2) happening to the employee's right to seek compensation.

However, paragraph 118-37(1)(a) of the ITAA 1997 disregards a capital gain made from a CGT event where the amount relates to compensation or damages received for any 'wrong, injury or illness you ... suffer in your occupation'. Therefore, any capital gain made from the CGT event happening to an employee's right to seek compensation is disregarded under paragraph 118-37(1)(a) of the ITAA 1997 because it is exempt income.

As the capital amount is exempt income all the conditions under the general exception provisions, in this case section 12-1(1A) of Sch 1 to the TAA, have not been met.

Conclusion

Even though the conditions under the general exception to withholding under section 12-1(1A) of Sch 1 of the TAA have not been met the company is not required to withhold from the payment made to the employee as all conditions under section 12-120 of Sch 1 to the TAA have not been met.

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