Edited version of private ruling

Authorisation Number: 1011752404302

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Ruling

Subject: Employment termination payment

Questions

1. Is a settlement payment made as a result of an unfair dismissal considered to be an employment termination payment in accordance with subsection 82-130(1) of the Income Tax Assessment Act 1997 (ITAA 1997)?

2. Is the employer required to pay superannuation guarantee contributions in respect of the settlement payment?

Advice/Answers

1. Yes.

2. The Commissioner is unable to rule.

This ruling applies for the following period

For the year ending 30 June 2011

The scheme commenced on

1 July 2010

Relevant facts

You commenced employment with a company (the employer).

You were dismissed from employment and lodged an application with Fair Work Australia (FWA). You alleged that your employment was terminated unfairly.

The employer denied the allegations.

During the unfair dismissal conciliation neither party would deter from their beliefs however both parties agreed to resolve the matter under the terms of a Deed of Release (the Deed).

The Deed states that the Respondent would pay the Applicant an amount to be taxed according to law within 7 days of the signing of the Deed.

Furthermore the Deed states that the Applicant accepts the sum in full and final settlement of all and any claims arising from employment and the cessation of employment.

The payment was made to you with an amount of tax withheld.

You are under 55 years of age.

Relevant legislative provisions

Income Tax Assessment Act 1997 Subsection 82-10(3).
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 Paragraph 82-130(1)(c).

Income Tax Assessment Act 1997 Subsection 82-130(4).
Income Tax Assessment Act 1997 Section 82-135.
Income Tax Assessment Act 1997 Section 83-295.
Income Tax Assessment Act 1997 Section 995-1.
Taxation Administration Act 1953 Division 359 of Schedule 1.
Superannuation Guarantee (Administration) Act 1992 Subsection 6(1).

Reasons for decision

Question 1

Summary

The settlement payment is an employment termination payment as it was made in consequence of your termination of employment. The total amount is a taxable component to be included in your income tax return for the 2010-11 income year.

Detailed reasoning

Employment termination payment

Section 995-1 of the Income Tax Assessment Act 1997 (ITAA 1997) states that:

employment termination payment has the meaning given by section 82-130 of the ITAA 1997.

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

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.

A life benefit termination payment is an employment termination payment to which subparagraph (1)(a)(i) of the ITAA 1997 applies.

A death benefit termination payment is an employment termination payment to which subparagraph (1)(a)(ii) of the ITAA 1997 applies.

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

· payment for unused annual leave or unused long service leave;

· the tax-free part of a genuine redundancy payment or an early retirement scheme payment.

· reasonable capital payments for personal injury.

To determine if the settlement sum constitutes an 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 three conditions will result in the payment not being considered an employment termination payment. Furthermore, any termination payments received outside of the 12 months will be taxed as ordinary income at marginal tax rates, unless the taxpayer is covered by a determination exempting them from the 12 month rule.

Paid as a consequence of the termination of your employment

It should be noted that the phrase 'in consequence of the termination of your employment' is not defined in the legislation. However, both the Courts and the Commissioner have considered the meaning of this phrase.

In Taxation Ruling TR 2003/13 the Commissioner has considered the meaning of the phrase 'in consequence of'.

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 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 ETP. It was held that a settlement payment for litigation in relation to a taxpayer's dismissal was an ETP.

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'.

The Full Federal Court in Dibb v Federal Commissioner of Taxation [2004] FCAFC 126; (2004) 207 ALR 151; 2004 ATC 4555; (2004) 55 ATR 786, has applied the above decisions in finding that the payment received by the taxpayer under a Deed of Release to settle various causes of action against the employer following the termination of employment was an ETP.

Paragraph 31 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. The payment will be taken to have been made in consequence of the termination of employment because it would not have been made but for the termination.

The essence of this analysis is that 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.

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.

In the present case, you were employed with a company (the employer).

You were dismissed from employment and lodged an application with Fair Work Australia (FWA). You alleged that your employment was terminated unfairly.

The employer denied the allegation.

During the unfair dismissal conciliation neither party would deter from their beliefs however both parties agreed to resolve the matter under the terms of the Deed of Release (the Deed).

The Deed states that the Respondent would pay the Applicant an amount (the settlement sum) to be taxed according to law within 7 days of the signing of the Deed.

Furthermore the Deed states that the Applicant accepts the settlement sum in full and final settlement of all and any claims arising from employment and the cessation of employment.

Therefore, it was agreed that the employer would make the payment to you in full and final settlement of all and any claims arising from you employment and the termination of your employment. The employer made the payment to you.

It is clear from the facts provided that the settlement sum made to you is made as 'in consequence of the termination of employment'. Although one of the causes of the payment was the claims brought by you against the employer, there is still a causal connection between the termination and the payment of the settlement. The legal action, the termination and the payment are all intertwined and connected. Therefore the first requirement under subparagraph 82-130(1)(a)(i) of the ITAA 1997 has been satisfied.

The payment is received no later than 12 months after termination

The second condition for the payment to meet the criteria, as an employment termination payment is stated under paragraph 82-130(1)(b) of the ITAA 1997. The settlement sum must be received within 12 months of the taxpayer's termination of employment, unless the taxpayer is covered by a determination exempting him from the 12 month rule.

The facts of this case show that you terminated employment and the payment was made to you by the employer within 12 months of the termination of your employment. As the payment was made within 12 months of the termination of employment the requirement under paragraph 82-130(1)(b) of the ITAA 1997 has been met.

The final requirement under paragraph 82-130(1)(c) of the ITAA 1997 is that the payment is not a payment mentioned in section 82-135 of the ITAA 1997.

Exclusions under section 82-135 of the ITAA 1997

Certain payments made on termination of employment are excluded from being an employment termination payment under section 82-135 of the ITAA 1997. These payments include any accrued annual and long service leave and the tax-free parts of a genuine redundancy payment or an early retirement scheme payment as well as other types of payments which do not apply to an employment termination payment.

As stated above, the payment is considered to be a payment received in consequence of the termination of employment and is not a payment mentioned in section 82-135 of the ITAA 1997. Thus, the requirement in paragraph 82-130(1)(c) is satisfied in this instance.

Consequently, the payment made to you in the 2010-11 income year is considered to be an employment termination payment as it satisfies all the requirements in section 82-130 of the ITAA 1997, and are not specifically excluded under section 82-135.

An employment termination payment made after 1 July 2007 will be comprised of the following components:

Tax fee component this includes the post-June 1994 invalidity or pre-July 83 component (if any); and

Taxable component the amount remaining after deducting the tax free component from the total payment.

The taxable component is subject to tax, depending on the person's age, as follows:

* Preservation age is the age at which retirees can access their superannuation benefits. This will be 55 for persons born before 1 July 1960 and between 55 and 60 for persons born after 30 June 1960.

The $140,000 cap on concessionally taxed employment termination payments is indexed annually to average weekly ordinary time earnings. For the 2010-11 income year the ETP cap is $160,000.

The taxable components of all life benefit employment termination payments received in an income year are counted towards this cap. Any tax-free amounts are not counted towards the cap.

In this case, you are under preservation age on the last day of the income year in which the payment was made. The payment of the settlement sum is a taxable component of an employment termination payment therefore this amount is to be included in your assessable income for the 2010-11 income year.

As the payment is under the employment termination payment cap, you are entitled to a tax offset that ensures that the rate of income tax on the amount of the settlement sum does not exceed 30% in accordance with subsection 82-10(3) of the ITAA 1997. In addition, the Medicare levy may apply.

Question 2

The Commissioner can only provide a private ruling in response to a valid application. For the following reasons we will not be making your private ruling in respect of this question raised in your application.

Division 359 of Schedule 1 to the Taxation Administration Act 1953 (TAA) provides that a private ruling is a written statement of the Commissioner's opinion of how a relevant provision applies, or would apply, to a particular entity in relation to a specified scheme.

In this case, the issue you have raised relates to whether the employer is required to provide superannuation support for the payment made to you for unfair dismissal.

The issue you have raised relates to the Superannuation Guarantee (Administration) Act 1992 (SGAA).

This is not a relevant provision for the purposes of the TAA. Therefore, the Commissioner is unable to rule on this issue that you have raised.

However, we offer the following general advice which is not binding on the Commissioner.

The Commissioner has issued Superannuation Guarantee Ruling SGR 2009/2 entitled: Superannuation guarantee: meaning of the terms 'ordinary time earnings' and 'salary or wages' which explains the meaning of 'ordinary time earnings' (OTE) as defined in subsection 6(1) of the SGAA. The definition of 'ordinary time earnings' is relevant to employers for calculating the minimum level of superannuation support required for individual employees under the SGAA.

The Ruling also explains the meaning of 'salary or wages' as defined in section 11 of the SGAA. The definition of 'salary or wages' is relevant in calculating the superannuation guarantee shortfall of individual employees where their employer has not provided the required minimum level of superannuation support.

Payments excluded from the definition of 'salary or wages'

In SGR 2009/2 the Commissioner has considered certain payments that are not 'salary or wages' for SGAA purposes and thus are not OTEs.

At paragraph 75 of SGR 2009/2 it states:

Unfair dismissal

75. Similarly, payments by way of compensation for unfair dismissal are not 'salary or wages'.

Therefore, a payment made for unfair dismissal is not a payment made for salary or wages and therefore not part of an employee's ordinary time earnings and is excluded from having superannuation guarantee support.