Edited version of your written advice

Authorisation Number: 1013004303905

Date of advice: 27 April 2016

Ruling

Subject: Employment termination payments

Question

Are the damages awarded to the Taxpayer an employment termination payment in accordance with section 82-130 of the Income Tax Assessment Act 1997?

Answer

Yes

This ruling applies for the following period:

Income year ended 30 June 2015

The scheme commences on:

1 July 2014

Relevant facts and circumstances

This ruling is based on the facts stated in the description of the scheme that is set out below. If your circumstances are materially different from these facts, this ruling has no effect and you cannot rely on it. The fact sheet has more information about relying on your private ruling.

The Taxpayer was employed by the Employer under a Contract.

The Contract was varied by Deeds of Amendment in subsequent years.

The Taxpayer's employment was terminated.

The Taxpayer commenced legal action, with the filing of a Statement of Claim.

The Taxpayer was awarded damages by the Court.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 82-10

Income Tax Assessment Act 1997 section 82-130

Income Tax Assessment Act 1997 section 82-135

Reasons for decision

Summary

The damages awarded to the Taxpayer are an employment termination payment (ETP).

Employment termination payment

A payment made to an employee is an ETP if it satisfies all the conditions set out in section 82-130 of the Income Tax Assessment Act 1997 (ITAA 1997). This section states:

(1) 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.

(4) Paragraph (1)(b) does not apply to you if:

(a)  you are covered by a determination under subsection (5) or (7); or

(b)  the payment is a * genuine redundancy payment or an * early retirement scheme payment.

Note: The part of a genuine redundancy payment or an early retirement scheme payment worked out under section 83-170 is not an employment termination payment: see section 82-135.

To determine if a payment constitutes an ETP, all the conditions in section 82-130 of the ITAA 1997 must be satisfied.

Failure to satisfy any of the conditions under subsection 82-130(1) of the ITAA 1997 will result in the payment not being considered an ETP.

Paid as a consequence of the termination of your employment

For a payment to be treated as an ETP, there must be a payment that is made in consequence of the termination of employment of the taxpayer, according to subparagraph 82-130(1)(a)(i) of the ITAA 1997.

The phrase 'in consequence of' is not defined in the ITAA 1997. However, the courts have interpreted the phrase in a number of cases. Taking into account the courts decisions on the meaning of this phrase, the Commissioner's view on the meaning and application of the 'in consequence of' test are set out in Taxation Ruling TR 2003/13 Income tax: eligible termination payments (ETP): payments made in consequence of the termination of any employment: meaning of the phrase in consequence of (TR 2003/13).

While TR 2003/13 considered the meaning of the phrase 'in consequence of' in the context of the eligible termination payments, TR 2003/13 can still be relied upon as both the former provision under the Income Tax Assessment Act 1936 and the current provision under the ITAA 1997 both use the term 'in consequence of' in the same manner.

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

… a payment is made in respect of a taxpayer in consequence of the termination of the employment of the taxpayer if the payment 'follows as an effect or result of' the termination. In other words, but for the termination of employment, the payment would not have been made to the taxpayer.

As further stated by the Commissioner in paragraph 6 of TR 2003/13, 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.

The phrase 'in consequence of termination of employment' has been interpreted by the courts in several cases.

Of note are the decisions made by 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 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.

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.

Suffice it to say that both Courts' views were 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.

Furthermore, in Le Grand v. Federal Commissioner of Taxation [2002] FCA 1258; (2002) 124 FCR 53; (2002) 195 ALR 194; 2002 ATC 4907; (2002) 51 ATR 39 (Le Grand), the issue before the court was whether an amount received by the applicant as a result of accepting an offer of compromise in respect of claims brought by him against his former employer, in relation to the termination of his employment was in whole, or in part, an employment termination payment. It was held that a settlement payment for litigation in relation to a taxpayer's dismissal was an employment termination payment.

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. As earlier stated in paragraph 6 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 ETP unless the payment is specifically excluded under section 82-135.

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.

Furthermore, in paragraph 13 of TR 2003/13 the Commissioner states:

It is clear from the decision in Le Grand, that when a payment is made to settle a claim brought by a taxpayer for wrongful dismissal or claims of a similar nature that arise as a result of an employer terminating the employment of the taxpayer, the payment will have a sufficient causal connection with the termination of the taxpayer's employment.

In this case, the Taxpayer filed a Statement of Claim for a remedy alleging they were unfairly dismissed by their Employer.

The payment made to the Taxpayer arose as a result of the termination of their employment with their employer. The matter was litigated, and pursuant to litigation, a judgment was made awarding the Taxpayer damages.

As the payment was made in consequence of the termination of the Taxpayer's employment with the Employer, the first condition under paragraph 82-130(1)(a) of the ITAA 1997 has been satisfied.

Payment is received no later than 12 months after termination

In this case, the Taxpayer's employment was terminated and the Taxpayer initiated their action against their Employer, resulting in the award of damages.

Therefore, as the compensation payment was made more than 12 months after the termination date this condition is not satisfied.

Determination under section 82-130(7) of the ITAA 1997

The Commissioner can make a legislative determination that paragraph 82-170(1)(b) does not apply to either or both of the following:

(a) a class of payments;

(b) a class of recipients of payments.

The Commissioner in November 2007, released Employment Termination Payments (12 month rule) Legislative Instrument which further expands on paragraph 82-130(1)(b) of the ITAA 1997. It states at paragraph 4:

Paragraph 82-130(1)(b) of the ITAA 1997 does not apply to a late termination payment if the payment is received more than 12 months after the termination of a person's employment because:

(a) legal action was commenced within 12 months of the termination of employment, of which the subject is either or both:

(i) the person's entitlement to the payment;

(ii) the amount of the person's entitlement; or

(b) the payment was made by a liquidator, receiver or trustee in bankruptcy of an entity that is otherwise liable to make the payment, where that liquidator, receiver or trustee is appointed no later than 12 months after the termination of employment.

In this case, the Taxpayer commenced legal action, and is within the 12 months from the Taxpayer's employment being terminated.

Therefore, the determination made under 82-130(7) applies to the Taxpayer's circumstances and provides an exemption from paragraph 82-130(1)(b).

Payment is not a payment mentioned under section 82-135 ITAA 1997

Section 82-135 of the ITAA 1997 provides a list of certain payments that are not ETPs. None of the amounts awarded to the Taxpayer, are excluded from being an ETP.

1. Therefore, this condition is satisfied.

Conclusion

2. The payment of damages is an ETP.

Taxation of ETP

3. Pursuant to section 82-10 of the ITAA 1997, the taxable component of an ETP is subject to tax depending on the recipient's age:

4. Preservation age is the age at which you can retire and access your super. In your case the Taxpayer was born before 1 July 1960, therefore their preservation age is 55.

5. An ETP made in connection with a dismissal are considered 'excluded' payments and therefore subject to the ETP cap only (i.e. the whole of income cap does not apply) if:

(i) They are paid in connection with a genuine dispute; and

(ii) They are principally compensation for unfair dismissal; and

(iii) They would exceed the amount that could, at the time of the termination, reasonably be expected to be received in consequence of voluntary termination.

6. As the damages awarded to the Taxpayer arose due to a genuine dispute with compensation for unfair dismissal, are in excess of the amount that would be expected to be received upon voluntary termination, the damages will only be subject to the ETP cap.

ATO view documents

Employment Termination Payments (12 month rule) Legislative Instrument 2007

Taxation Ruling TR 2003/13 Income tax: eligible termination payments (ETP): payments made in consequence of the termination of any employment: meaning of the phrase 'in consequence of' (TR 2003/13)

Taxation Ruling TR 2009/2 Income Tax: genuine redundancy payments

Whitaker v. Federal Commissioner of Taxation (1998) 153 ALR 334; 98 ATC 4285

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

McIntosh v. Federal Commissioner of Taxation (1979) 25 ALR 557; (1979) 10 ATR 13; (1979) 45 FLR 279; (1979) 79 ATC 4325

Le Grand v. Federal Commissioner of Taxation [2002] FCA 1258; (2002) 124 FCR 53; (2002) 195 ALR 194; 2002 ATC 4907; (2002) 51 ATR 39

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