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Ruling

Subject: Issuance of Payment Summaries to Prisoners

Issue 1; Issuance of Payment Summaries to Prisoners

Question 1

Is a payment summary required to be issued by the Correctional Services in respect of a payment made to a prisoner in accordance with legislation?

No.

Detailed reasoning

A payment summary, previously known as a group certificate, refers to a written statement that:

§ names the payer (for example individual, business, company) and the recipient, and

§ if the recipient has given their TFN or ABN to the payer - states the TFN or ABN, and

§ states the total of the withholding payments that it covers and the total amounts withheld (previously tax instalment deductions) by the payer from those withholding payments, and

§ specifies the financial year in which the withholding payments were made, and

§ specifies the reportable fringe benefits amount, if any, that it covers in the income year to which that amount relates, and

§ specifies the reportable employer superannuation contributions, if any, that it covers and the income year to which those contributions relate.

Previous Legislation

Under subsection 221F(5E) of the Income Tax Assessment act 1936 (ITAA 1936), the employer was not required to issue a group certificate to an employee where:

i. all of the salary or wages received for the period were -atypical-;

ii. the weekly wage or salary for any week within the period of 12 months is below the minimum amount of -atypical- salary or wages at which tax instalment deductions have to be made; and

iii. the employee was not a prescribed non-resident in the period of 12 months (i.e. specified pension recipients).

Subsection 221F(5F) of the ITAA 1936 defined salary or wages to be 'atypical' if they do not relate to employment in a trade, business, profession or undertaking carried on by the employer.

As covered in the above discussion regarding the application of Income Tax Regulation 84 of the ITAA 1936, payments paid by the prison department to the prisoners are arguably 'atypical'. It was also found that the maximum amount which a prisoner can receive in any one week is below the amount at which tax instalment deductions are required.

Subsection 221F(5E) of the ITAA 1936 does not form part of the current legislation under the TAA53 that now administers the PAYG legislation, however it does indicate that at that time the intention was that the payment to prisoners was 'atypical' and that the payment was not related to employment in a trade, business, profession or undertaking carried on by the employer.

Division 16 of the Taxation Administration Act 1953 (TAA)

Payer's Obligations and Rights

Division 16 sets out the obligations and rights of an entity required to withhold an amount under Division 12 of the TAA, or pay an amount to the Commissioner under Division 13 or 14 of the TAA.

Division 12 of the TAA defines the various groups to which payments are made and the conditions under which payments are made, these include;

§ Payment to employees

§ Payment to company directors

§ Payment to office holders

§ Payment to religious practitioners

§ Return to work payment

§ Voluntary agreement to withhold

§ Payment under labour hire arrangement, or specified by regulations

Section 12-35 of the TAA deals with payment to employees and states;

An entity must withhold an amount from salary, wages, commission, bonuses or allowances it pays to an individual as an employee.

The question is are prisoners classified as employees, and to establish this it is necessary to define the relationship between the Correctional Services and the prisoners.

Who is an 'employee' within the ordinary meaning of that expression?

There is no one factor that determines whether a person is an employee or an independent contractor. A number of factors must be considered. The relationship between employee and employer is said to be a contract of service, and has been referred to as a master/servant relationship.

Such a relationship is typically contrasted with the independent contractor/principal relationship which is said to be one for services. An independent contractor contracts to achieve a result whereas an employee contracts to provide his or her labour, or personal exertions of some other kind (typically to enable the employer to achieve a result).

At either end of the spectrum, it is a simple matter to recognise the classic employer/employee relationship. It is sometimes difficult to define the nature of the relationship where the factors are not so clear. The emergence of performance-based contracts, flexible working hours and work from home arrangements represent a trend that is blurring the traditional distinctions between employee and independent contractor.

In Stevens v. Brodribb Sawmilling Company Pty Ltd (1986) 160 CLR 16 the High Court stated the common law meaning of the term 'employee'. The Court said that there is no single objective test to be applied. It is the totality of the relationship between the parties which must be considered.

Taxation Ruling TR 2005/16 provides guidance to the types of factors to be considered in each case. The features discussed below, have traditionally been regarded by the courts as indicators to assist in determining the true nature of the contract.

Terms and circumstances of the formation of contract

Where there is a written contract between the parties, it is the express and implied terms of the contract that evidence the intention of the parties at the time the contract was formed. Conduct after the contract is formed is only relevant to show that the original contract has been modified.

A clause in the contract that labels the relationship between the parties must be considered with all other terms of the contract. The true substance of the relationship will determine its status and not the label given. Such a clause may be useful in overcoming ambiguity as to the true nature of the relationship.

The circumstances surrounding the formation of the contract may assist in determining the true character of the contract. A principal/independent contractor relationship may be inferred where the contractor advertises their services to the public in the ordinary course of carrying on a business or as a result of a successful tender process.

Conversely, the existence of an employer/employee relationship may be inferred where a contract is formed as a result of a job vacancy advertisement or through the services of a placement agency.

As Gray J stated in Re Porter: re Transport Workers Union of Australia:

Although the parties are free, as a matter of law, to choose the nature of the contract which they will make between themselves, their own characterisation of that contract will not be conclusive. A court will always look at all of the terms of the contract, to determine its true essence, and will not be bound by the express choice of the parties as to the label to be attached to it. As Mr Black put it in the present case, the parties cannot create something which has every feature of a rooster, but call it a duck and insist that everybody else recognise it as a duck

The Control Test

The basic test for determining whether the relationship of master and servant exists is the exercise of control over the manner in which work is performed. With increasing usage of skilled labour and consequential reduction in supervisory functions, the focus of the control test has changed from the actual exercise of control to the right of control. Moreover, while control is important, it is not the sole indicator of whether or not a relationship is one of employment.

The mere fact that a contract may specify in detail how the contracted services are to be performed does not necessarily imply an employment relationship. In fact, a high degree of direction and control is not uncommon in contracts for services. The payer has a right to specify how the contracted services are to be performed, but such control must be expressed in the terms of the contract otherwise the contractor is free to exercise his or her discretion (subject to any terms implied by law). This is because the contractor is working for himself or herself.

Under a contract of service, on the other hand, the employer has an implied right within the limits imposed by industrial relations laws, to direct and control the work of an employee. This is because the employee is working in the employer's business and the owner of a business has the right (within the confines of applicable law) to manage that business as the owner sees fit.

The High Court stated that what matters is lawful authority to command, so far as there is scope for it. The more control that is held over the person performing the work, the more likely it is that the person will be an employee.

Results Contracts

Where the substance of a contract is to achieve a specified result, there is a strong (but not conclusive) indication that the contract is one for service. In a contract for services, the contract specifies the services to be performed in return for an agreed payment. Satisfactory completion of the specified services is the 'result' for which the parties have bargained. Conversely, under a contract of service, payment is not necessarily (but may be) dependent on, and referable to, the completion of specified services.

Delegation

The power to delegate was considered to be an important factor in deciding whether a person is an employee or an independent contractor. An unlimited power to delegate work is an important indication that the service provider is an independent contractor.

Conditions of Engagement

Provision of paid leave entitlements, for example, sick leave, long service leave and superannuation, are persuasive indicators of an employment relationship.

It should be noted that there is no standard set of indicators applicable to an employee and a different set applicable to an independent contractor.

Most conditions of engagement when viewed individually are equivocal as indicators of the true character of the relationship.

Hours of Work and Mode of Payment

An employee generally works standard or set hours. An independent contractor, on the other hand, generally sets their own hours of work.

Business Risk and Expenses

Where the worker bears little or no risk of the costs arising out of injury or defect in carrying out his or her work, he or she is more likely to be an employee. The higher the degree to which a worker is exposed to the risk of commercial loss (and the chance of commercial profit) the more he or she is likely to be regarded as being independent. Typically, a worker who derives piece rate payment and sustains large outgoings would be so exposed.

The higher the proportion of the gross income which the worker is required to expend in deriving that income, and the more substantial the assets which the worker brings to his or her tasks, the more likely it is that the contract is for services.

Place of Performance

Workers under a contract of service will generally perform the tasks on the payer's premises using the payer's assets and equipment. A contractor, on the other hand, generally provides all their own assets and equipment.

Integration

The question of whether the work is integrated into the business is another factor to consider. The presence of other workers doing the same work for the principal would indicate that the worker is an integral part of the business.

Are Prisoner Payments Assessable Income?

The question of whether payments paid to prisoners are assessable to income tax should be considered with reference to section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997). Income according to ordinary concepts (ordinary income)

(1)  Your assessable income includes income according to ordinary concepts, which is called ordinary income.

Note: Some of the provisions about assessable income listed in section 10-5 may affect the treatment of ordinary income.

(2)  If you are an Australian resident, your assessable income includes the ordinary income you derived directly or indirectly from all sources, whether in or out of Australia, during the income year.

(3)  If you are a foreign resident, your assessable income includes:
                     (a) the ordinary income you derived directly or indirectly from all Australian sources during the income year; and
                     (b) other ordinary income that a provision includes in your assessable income for the income year on some basis other than having an Australian source.

(4)  In working out whether you have derived an amount of ordinary income, and (if so) when you derived it, you are taken to have received the amount as soon as it is applied or dealt with in any way on your behalf or as you direct.

Section 6-5 of the ITAA 1997 defines assessable income as ordinary income derived directly or indirectly from all sources, whether in or out of Australia, during the income year.

Paragraph 26(e) of the ITAA 1936 provides that the value of all allowances, gratuities, compensations, benefits, bonuses and premiums allowed, given or granted in respect of, or for or in relation directly or indirectly to, any employment of or services rendered is included in assessable income.

While certain income and allowances are exempt from tax, the allowances and remuneration paid to prisoners are not considered exempt income.   

Resident taxpayers are entitled to the benefit of a tax-free threshold. This means a portion of taxable income derived by a resident is tax free. Taxable income is assessable income minus allowable deductions (generally, a deduction is a loss or outgoing incurred in gaining or producing assessable income). 

If you are in receipt of income or an allowance while in prison, you are liable to pay tax on that income and income from any other source if that income exceeds the threshold.

In this case a prisoner is paid a maximum of $43.60 per week in return for services rendered by the prisoner. Although the prisoner does not receive an actual payment of cash, the payment is credited directly into his or her trust account from which it may be drawn upon in much the same way as if it had been deposited into a regular savings account.

These factors indicate that the payments should fall into the type of income considered assessable under section 6-5 of the ITAA 1997. That section would operate to catch payments of the sort made to prisoners has been indicated by the High Court in Scott v. Federal Commissioner of Taxation (1966) 117 CLR 514. In that case Windeyer J commented (at p 526):

Under section 6-5 of the ITAA 1997 its meaning and purpose is to ensure that certain receipts and advantages which are in truth rewards of a taxpayer's employment or calling are recognized as part of his income. In other words the enactment makes it clear that the income of a taxpayer who is engaged in any employment or in the rendering of any services for remuneration includes the value to him of everything that he in fact gets, whether in money or in kind and however it be described, which is a product or incident of his employment or a reward for his services.

If, instead of being paid fully in money, he is remunerated, in whole or in part, by allowances or advantages having a money value for him they must be taken into account. The enactment does not bring within the tax gatherer's net moneys or moneys' worth that are not income according to general concepts. Rather it prevents receipts of moneys or moneys' worth that are in reality part of a taxpayer's income from escaping the net.

It is therefore concluded that the nominal amounts of monies received by prisoners for services rendered are assessable income by virtue of section 6-5 of the ITAA 1997.

Are Payments to Prisoners caught under one of the systems for the collection of Tax at source?

As the payments are found to be assessable under section 6-5 of ITAA 1997, the next question for decision in this case is whether the payments are caught under one of the systems for the collection of tax at source.

It is considered the system for collection of tax at source which applies to the payments is the Pay As You Go (PAYG) system provided for under Schedule 1 to the TAA. Section 12.35 of Schedule 1 Part 2-5 to the TAA places an obligation on the payer to make tax instalment deductions from a payment to another person where the following conditions are met:

Schedule 1 Part 2-5 Division 12 section 12 -35   Payment to employee

An entity must withhold an amount from salary, wages, commission, bonuses or allowances it pays to an individual as an employee (whether of that or another entity).

The key words of subsection 12-35 of the TAA are employee and salary or wages:

§ employee- is a person who receives or is entitled to receive salary or wages; and

§ employer- is a person (and includes, inter alia, a government body) who pays or is liable to pay any salary or wages.

The PAYG system is based primarily on the payment of salary or wages. Thus the definition of salary or wages, found at subsection is fundamental to the operation of the PAYGW system. 'Salary or wages as being . . . .salary, wages, commission, bonuses or allowances paid (whether at piece-work rates or otherwise) to an eligible person as such, . . '. The intent of the words as such is to include individuals who are employees according to the ordinary or common law meaning of that word.

At common law, if a master-servant relationship exists the recipient of a payment is an employee and the payer is an employer. It is generally considered that a master-servant relationship exists where one person contracts to perform work for another and is substantially under the control and direction of that other in the way that work is to be carried out.

In this regard it is arguable that when prisoners work under the direction and control of the prison superintendent and or other nominated person and are paid in respect of that work performed, they are employees of the prison department (represented by the superintendent) in the ordinary or common law meaning of the word.

While the control test is a traditional and an important one in the identification of a master-servant relationship, recent developments have seen a more flexible approach which draws upon additional factors. This was evident in the High Court decision of Stevens v. Brodribb Sawmilling Co Pty Ltd (1986) 160 CLR 16 where Mason J commented (at p 24):

A prominent factor in determining the nature of the relationship between a person who engages another to perform work and the person so engaged is the degree of control which the former can exercise over the latter. . . .But the existence of control, whilst significant, is not the sole criterion by which to gauge whether a relationship is one of employment. The approach of this Court has been to regard it merely as one of a number of indicia which must be considered in the determination of that question . . . Other relevant matters include, but are not limited to, the mode of remuneration, the provision and maintenance of equipment, the obligation to work, the hours of work and provision for holidays, the deduction of income tax and the delegation of work by the putative employee.

We know from the facts of this case that:

i. the prisoners are paid strictly on the basis of the type of work they undertake;

ii. the prisoners are provided with the equipment which they rely on to work;

iii. the prisoners' own behaviour and willingness to work have a bearing on the type of work they are allocated; and

iv. the prisoners are required to personally undertake the work they are assigned.

Note: the issue of employer and employee is seen differently in the case of Hendy v. Northern Territory of Australia [2010] NTMC 045, Workers Compensation - Definition of a Worker - Persons Entitled to Compensation - Prisoner at work in custody - whether a "worker" as defined - Workers Rehabilitation and Compensation Act 1986 (NT) as amended s 3 Prisons (Correctional Services) Act 1980 (NT) as amended s 66.

Mr Hugh Bradley (Stipendiary Magistrate) in his decision found that Mr Hendy is a "worker" within the meaning of the Workers Rehabilitation and Compensation Act 1986 (NT) and that the Northern Territory Government is an "employer" as defined also in the Workers Rehabilitation and Compensation Act 1986 (NT) being a person "by or for whom the worker is engaged or works".

This court decision recognises that under that particular act there can be an interpretation of an employer/employee relationship; this of course does not follow that another act would automatically recognise the same or similar relationship.

Even though the above considerations do not constitute the existence of an employer-employee relationship between the Correctional Services and the prisoners the payments received by the prisoners will come under the definition of income and these payments are subject to the operation of the PAYGW provisions in Schedule 1 to the TAA.

Are Tax Instalments required to be deducted from the payments to Prisoners?

The operative section of the PAYGW system which places an obligation on the employer to make tax instalment deductions from a payment caught under this system. The issue to be considered now is whether the Correctional Services is required to deduct tax at source on the payments paid to the prisoners.

It has been confirmed by Correctional Services that work provided to the prisoners are undertaken purely on a non-profit arrangement. The making of such work available to the prisoners is to help alleviate the boredom which comes with prison life and to maintain some measure of normalcy akin to outside life.

The highest rate of payment to a prisoner is $43.60 per week which is $2,267.20 per annum. This annual rate does not exceed the tax-free threshold for a resident taxpayer and, therefore, would not require an amount to be withheld unless the prisoner had other income to exceed the threshold. However, a withholding of nil would not necessarily mean that a payment is not a withholding payment.

Conclusion

In this case the relationship is not contractual neither is it a master servant relationship. The work the prisoners perform is not based on an agreement to perform and produce results, is not defined by hours worked or payment rates, is not necessarily a condition of their incarceration, a prisoner does not have to work if he/she does not wish to.

The Prisons Act provides for a prisoner to be paid for the performance of work or when available to work or unable to work.

The Correctional Services is not an entity that is in the business of carrying on an enterprise, but is an institution created by the legislative powers of the government, for the purpose of the supervision of incarcerated prisoners and the management of the prison facilities.

The election by the prisoner to perform work within the prison system is an opportunity to relieve boredom, maintain or improve on skills, recreate and associate with other inmates and have the opportunity to be paid extra monies to be able to purchase goods from the respective outlets available within the prison.

After consideration of the facts supplied and the factors in TR 2005/16, it appears clear that the nature of the relationship between Correctional Services is not an employer/employee relationship.

Therefore the payments to a prisoner by the Correctional Services does not meet the criteria for wages, salary, commissions, allowance or bonuses but to all sense and purposes is 'atypical' type of payment and that the payment was not related to employment in a trade, business, profession or undertaking carried on by the employer .

As such there is no requirement to issue a payment summary to the prisoner.

However the payments are assessable income in the hands of the prisoner and as such are subject to taxation as assessable income. Hence the payments are subject to withholding if those payments exceed the threshold in any year of income.