Edited version of your written advice

Authorisation Number: 1051341885213

Date of advice: 28 February 2018

Ruling

Subject: Genuine redundancy payments

Question 1

Is a termination payment (the Severance Payment) received by a person (the Client) on the termination of their employment a genuine redundancy payment in accordance with section 83-175 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes

Question 2

If the Severance Payment is a genuine redundancy payment, is any part of the payment tax-free under section 83-170 of the ITAA 1997?

Answer

Yes

This ruling applies for the following period:

Income year ended 30 June 2017

The scheme commences on:

1 July 2016

Relevant facts and circumstances

The Client commenced employment with the Employer in 2014.

The terms of the Client’s employment were set out in an employment agreement (the Agreement) made between the Employer and the Client.

In accordance with Clause 1 of the Agreement (Commencement of Employment), the Client’s employment was to commence from a date in 2014 and automatically continue thereafter until and/or unless the employment is terminated.

Clause 3 of the Agreement (Termination of Employment) provided that:

● both parties shall have the right to terminate employment without cause and without payment of any compensation, damages, severance etc, by giving 30 days written notice

● at the employer’s discretion, an employee may be given pay in lieu of notice entitlement

● if an employee resigns from their employment without giving proper notice, they will not receive a payment in lieu of notice.

In 2016, the Employer advised the Client that, as a result of changing market conditions within the industry, they no longer had a suitable position for the Client and their employment would be terminated.

Following the termination, the Client received a separation payment of three months’ base salary (the Severance Payment).

There is nothing in the Agreement to indicate that the Client would have received the Severance Payment had they voluntarily resigned from their employment with the Employer.

The Severance payment was not made in lieu of superannuation benefits.

The Client was an Australian resident for tax purposes during the period to which the relevant employment relates.

The Client was born before 1 July 1960.

You state that no foreign tax was withheld from the Severance Payment.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 82-10

Income Tax Assessment Act 1997 Section 82-135

Income Tax Assessment Act 1997 Section 82-145

Income Tax Assessment Act 1997 Section 83-170

Income Tax Assessment Act 1997 Section 83-175

Superannuation Industry (Supervision) Regulations 1994 Subregulation 6.01(2)

Reasons for decision

Summary

The Severance Payment received by the Client from the Employer on the termination of their employment with the Employer is a genuine redundancy payment as defined in section 83-175 of the ITAA 1997.

The tax- free amount of the Severance Payment is worked out under section 83-170 of the ITAA 1997. The Client is not required to include this amount in their income tax return for the 2016-17 income year.

The remaining amount of the Severance Payment is treated as an employment termination payment (ETP) and should be included in the Client’s income tax return for the 2016-17 income year.

Detailed reasoning

Question 1

Genuine redundancy payments

In accordance with section 83-175 of the ITAA 1997, 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 and exceeds the amount that could reasonably be expected to be received by the employee in consequence of the voluntary termination of their employment at the time of dismissal.

Taxation Ruling TR 2009/2 Income Tax: genuine redundancy payments (TR 2009/2) provides the Commissioner’s view and 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:

There are four necessary components within this requirement:

● The payment being tested must be received in consequence of an employee’s 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.

Based on the information provided, we accept that the above requirements are satisfied in the Client’s case.

Further conditions for a genuine redundancy payment

In addition to the basic requirements for a genuine redundancy payment in subsection 83-175(1) of the ITAA 1997, the further conditions for genuine redundancy payment treatment in subsections 83-175(2), (3) and (4) of the ITAA 1997 require that:

● the dismissed employee is not older than 65 years;

● the termination is not at the end of a fixed period of employment;

● if the dismissal was not at arm’s length -, the payment is not greater than the amount that could reasonably be expected to be made if the dismissal were at arm’s length;

● there is no arrangement entered into between the employer and the employee or the employer and another entity to employ the dismissed employee after the dismissal;

● the payment is not in lieu of superannuation benefits to which the employee may have been entitled to;

● the payment is not mentioned in section 82-135 of the ITAA 1997 (none of which apply in this case).

In this case all the additional conditions for genuine redundancy have also been satisfied as:

● at the time of dismissal the Client was less than 65 years of age;

● the dismissal was not at the end of a fixed term of employment;

● the dismissal was at arm’s length;

● at the time of dismissal, there was no arrangement between the Client and the Employer, or between the Employer and another person, to employ the Client after the dismissal; and

● the Severance Payment was not received in lieu of superannuation benefits.

Consequently, it is considered that the Client was dismissed from employment with the Employer because their position was redundant. In addition, there is nothing to indicate that the redundancy was in any way contrived, therefore the redundancy was genuine.

However, while it is accepted that the Client was dismissed from their employment because their position was genuinely redundant, subsection 83-175(1) of the ITAA 1997 also requires that the payment received in consequence of redundancy exceeds the amount that the Client would have received had they voluntarily resigned from employment.

In this case, there is nothing to indicate that the Client would have received the Severance Payment if they resigned from their employment with the Employer. As such, all the conditions under section 83-175 of the ITAA 1997 have been satisfied, and the Severance Payment is a genuine redundancy payment as defined in section 83-175 of the ITAA 1997.

Detailed reasoning

Question 2

Tax-free amount of genuine redundancy payments

Subsection 83-170(2) of the ITAA 1997 provides that so much of the genuine redundancy payment that does not exceed the amount worked out using the formula prescribed in subsection 83-170(3) of the ITAA 1997 is not assessable income and is not exempt income.

The formula for working out the tax-free amount in subsection 83-170(3) of the ITAA 1997 is:

Base amount + (Service amount × Years of service)

For the 2016-17 income year:

Base amount means $9,936;

Service amount means $4,969; and

Years of service means the number of whole years in the period, or sum of periods, of employment to which the payment relates.

In this case, the Client’s employment commenced in 2014 and ceased in 2016. Hence the ‘years of service’ to which the genuine redundancy payment relates is two whole years of service.

Accordingly, the tax-free part of the Severance Payment is worked out under subsection 83-175(3) of the ITAA 1997.

Consequently, this amount is not required to be included in the Client’s income tax return for the 2016-17 income year.

The remaining amount is treated as an ETP and is taxed accordingly.

Taxation of ETPs

The tax treatment of ETPs is set out in Division 82 of the ITAA 1997.

In accordance with subsection 82-10(1) of the ITAA 1997, the ‘tax free component’ of a life benefit termination payment is not assessable income and is not exempt income.

The taxable component of a life benefit ETP is assessable income under subsection 82-10(2) of the ITAA 1997.

The ‘taxable component’ is defined in section 82-145 of the ITAA 1997 as the amount remaining after deducting the tax free component from the total payment.

For recipients above their preservation age, the taxable component of an ETP is taxed at 15% (plus Medicare Levy) for amounts below the ETP cap amount ($195,000 for the 2016-17 income year), and at the top marginal rate for amounts above the cap (subsection 82-10(3) of the ITAA 1997).

Preservation age for persons born before 1 July 1960 is 55 years (subregulation 6.01(2) of the Superannuation Industry (Supervision) Regulations 1994.

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