Edited version of private ruling

Authorisation Number: 1011760720564

This edited version of your ruling will be published in the public Register of private binding rulings after 28 days from the issue date of the ruling. The attached private rulings fact sheet has more information.

Please check this edited version to be sure that there are no details remaining that you think may allow you to be identified. Contact us at the address given in the fact sheet if you have any concerns.

Ruling

Subject: lump sum payment

Questions

1. Will any part of the lump sum settlement payment be an eligible termination payment?

2. Will any part of the lump sum settlement payment be a genuine redundancy payment?

3. Will the lump sum settlement payment be subject to capital gains tax?

Answers

1. Yes.

2. Yes.

3. No.

This ruling applies for the following period:

Year ending 30 June 2011

The scheme commences on:

1 July XXXX

Relevant facts:

You are under age 65.

You commenced employment with your former employer during the year ended 30 June 2010.

You state you were appointed pursuant to paragraph 176(1)(c) of the Fair Work Act 2009 (the FW Act) during the recent year.

During the subsequent year ended 30 June you filed with Fair Work Australia (FWA) an application for FWA to deal with a dispute in accordance with a dispute settlement procedure. The dispute against your former employer related to an Award relevant to your former employment.

You commenced dispute resolution proceedings with FWA to determine the relevant Modern Award that provides coverage for the workplace (the workplace instrument).

You state you were issued with a notice of termination of employment from your former employer in the recent year (the Letter).

In the Letter, your former employer stated to you that, as a result of an entity associated with your former employer transferring a part of their business to another entity associated with your former employer, your position was no longer needed. As a consequence, this organisational change led to the termination of your employment in the recent year.

The Letter referred to the termination of your employment by reason of redundancy.

During the recent year you then requested from your former employer that all employee records be made available for inspection and copying.

Later you initiated dispute resolution proceedings with FWA regarding the failure by your former employer to carry out "major workplace change consultation" prior to terminating your employment by way of redundancy as required by the workplace instrument.

In the recent year:

You filed an application against your former employer in the Federal Magistrates Court "seeking relief by way of an interim injunction and final orders pursuant to section 545(2)(a) of the FW Act".

You filed with Fair Work Australia (FWA) an application for FWA to deal with a dispute in accordance with a dispute settlement procedure' against your former employer. The dispute related to the relevant Award.

You lodged a claim under the Fair Work Act 2009 alleging contravention of a general protection'.

You filed a 'Statement of Claim'.

In the recent year, you filed with FWA, an 'Application for Unfair Dismissal Remedy' against your former employer.

Your former employer and yourself reached a settlement agreement in respect of all existing and future claims. The settlement required that your former employer pay to you a specified lump sum payment.

You state that it is evident from the settlement documentation that:

· the payment is not represented as any type of reward for personal service in connection with your former engagement as an employee of your former employer.

· the grant of compensation by way of settlement in this circumstance was not an allowance or payment referred to in Division 82 of the Income Tax Assessment Act 1997 (ITAA 1997), thus must be considered ex-gratia and 'exempt income' in respect of this Division.

You state the following in relation to 'Lump sum Compensation is a CGT event':

Paragraph 108-5(1)(b) of the ITAA 1997 provides that capital gains tax (CGT) is a legal or equitable right that is not property." Therefore the present and future rights to compensation sacrificed by entering into the Settlement are a 'CGT asset'.

Subsection 104-10(1) of the ITAA 1997 provides that a Capital Gains Tax Event (CGT Event) happens if you dispose of a CGT asset".

Paragraph 104-10(3)(a) of the ITAA 1997 provides that the time at which a Capital Gains Event (CGT Event) occurs is "when you enter into the contract for the disposal." This time was in September 2010, the date that the Settlement was executed.

You state in relation to 'Occupation based Compensation CGT Exemption' that paragraph 118-37(1)(a) of the ITAA 1997 provides that a capital gain or loss you make from a CGT event resulting from "compensation or damages you receive for any wrong or injury you suffer in your occupation" is disregarded. You therefore put that you are not liable for CGT with respect to this lump sum.

You state:

The confidential settlement of workplace disputes and court applications gave rise to the lump sum compensation payment that your former employer is to make to you.

There was no breakdown of how the compensation amount was calculated.

As the payment cannot be broken down into its individual components, it is not possible to individually assess the financial value of each item and court action mentioned in the confidential settlement. This is due to the fact that many of the disputes were about non-monetary workplace issues such as consultation provisions and workplace discrimination.

All rights to seek additional compensation were disposed of by way of the settlement which disallows either party from making further claims.

The payment is not paid under any legislation (Act).

In summary, you state:

The lump sum payment was made in return for the disposal of a CGT asset.

The CGT event is exempt from CGT because it occurred as a result of an application for compensation for a wrong committed against you in the course of your occupation.

The settlement documentation dated in XXXX includes the following:

That your former employer will pay you the specified lump sum within X days.

This payment is a once and for all settlement of all matters arising from your employment with the employer and the termination of the your employment by your former employer.

It is a condition of this settlement that you discontinue the proceedings you commenced

In the subsequent year, you advised by correspondence:

The specified lump sum was not received and is the subject of a dispute currently before the relevant authority.

No PAYG summary or payment documentation exists.

A subpoena has been issued and returned as part of the dispute and at hearing before a local court.

This subpoena required the production to the Court of all Employee Records.

Representatives of your former employer advised the Court that no documentary record of the ex gratia payment exists.

The reason for the ruling application is that it was not an employment termination payment but an ex gratia payment to discontinue discrimination litigation before the Federal Magistrates Court of Australia and further rights of prosecution of the discrimination.

Relevant legislative provisions:

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)(b)

Income Tax Assessment Act 1997 Subsection 82-130(2).

Income Tax Assessment Act 1997 Section 82-135

Income Tax Assessment Act 1997 Paragraph 82-135(e)

Income Tax Assessment Act 1997 Section 82-170

Income Tax Assessment Act 1997 Subsection 82-170(2)

Income Tax Assessment Act 1997 Subsection 82-170(3)

Income Tax Assessment Act 1997 Section 83-175

Income Tax Assessment Act 1997 Subsection 83-175(1)

Income Tax Assessment Act 1997 Subsection 83-175(2)

Income Tax Assessment Act 1997 Paragraph 83-75(2)(a)

Income Tax Assessment Act 1997 Paragraph 83-75(2)(b)

Income Tax Assessment Act 1997 Paragraph 83-75(2)(c)

Income Tax Assessment Act 1997 Subsection 83-175(3)

Income Tax Assessment Act 1997 Subsection 83-175(4)

Income Tax Assessment Act 1997 Section 118-20.

Income Tax Assessment Act 1997 Section 118-22.

Income Tax Assessment Act 1997 Section 118-37.

Reasons for decision

These reasons for decision accompany the Notice of private ruling.

Summary

The lump sum settlement payment, if paid pursuant to the terms of the settlement documentation will be a payment made in consequence of the termination of your employment.

The payment is also considered a genuine redundancy payment so part of the payment will be tax-free. The tax-free part of a genuine redundancy payment is not assessable income and is not exempt income. The remainder will be an employment termination payment (ETP) and included as assessable income in the relevant income year.

The lump sum settlement payment is not subject to capital gains tax.

Detailed reasoning

Employment termination payment

A payment made to an employee on or after 1 July 2007 is an employment termination payment if the payment satisfies all the requirements in section 82-130 of the ITAA 1997 and is not specifically excluded under section 82-135.

Subsection 82-130(1) states:

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 the termination (but see subsection (4)); and

(c) it is not a payment mentioned in section 82-135.

Subsection 82-130(2) states:

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

In Taxation Ruling 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), the Commissioner considered the meaning of the phrase 'in consequence of' as interpreted by the Courts. In paragraphs  5 and 6 of TR 2003/13 the Commissioner states:

5. The phrase 'in consequence of' is not defined in the ITAA 1936. However, the words have been interpreted by the courts in several cases. Whilst there are divergent views as to the correct interpretation of the phrase, the Commissioner considers that 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.

6. The phrase requires 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.

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 a life benefit employment termination payment unless the payment is specifically excluded under section 82-135 of the ITAA 1997.

Based on the information provided, the lump sum settlement payment, if made pursuant to the terms as set out in the settlement documentation, will be made to you in consequence of the termination of your employment because there is a nexus between the agreed lump sum settlement payment and the termination of your employment in XXX 2010. This is in accordance with the Commissioner's view in TR 2003/13 and subparagraph 82-130(1)(a)(i) of the ITAA 1997.

In your case, there exists a dispute between yourself and your former employer regarding your termination of employment. Your former employer gave you notification in writing that your employment was to be terminated because your position was no longer needed by your former employer due to their changes in operational requirements.

According to the lump sum settlement documentation, your former employer and yourself were parties to an agreement which was to provide for settlement of the disputes you had lodged. This was to be effected by your agreement to the terms of the settlement, and subject to the payment of the agreed lump sum to you.

Although the dominant cause of the payment is to settle the claim initiated by you, there is a causal connection between the termination of employment and lump sum settlement payment. This is clear from the settlement terms agreed between yourself and your former employer that "this payment is a once and for all settlement of all matters arising from your employment with the employer and the termination of employment by the employer."

Further, a condition of the settlement payment was that you were to discontinue the proceedings commenced by yourself in the Federal Magistrates Court or proceedings commenced in any other jurisdiction.

Given the nature of the dispute, it is reasonable to state that the parties would not have entered into settlement if your employment had not ceased. Accordingly, the dispute, the settlement, the termination of employment and the payment are all intertwined and connected.

Based on the Commissioner's views expressed in TR 2003/13, the facts presented demonstrate a clear connection or a link exists between the termination of your employment and the payment of the agreed lump sum. In other words, you would not otherwise receive the payment except for the termination of your employment. The payment (if paid) will be made in consequence of the termination of employment and therefore is an ETP as defined in subparagraph 82-130(1)(a)(i) of the ITAA 1997.

The essence of the preceding discussion is that while a payment may be made for a number of reasons, if the payment is connected or linked to the termination of employment, it will be paid in consequence of the termination of employment and be assessable as an ETP unless specifically excluded under section 82-135 of the ITAA 1997.

Paragraph 82-135(e) provides that 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. Section 83-170 provides tax-free treatment for the relevant part of a genuine redundancy payment received.

Genuine redundancy payment

Section 83-175 of the Income Tax Assessment Act 1997 (ITAA 1997) sets out the criteria to be met in order for a payment to be considered a genuine redundancy payment. The provision is as follows:

(1) 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 as exceeds the amount that could reasonably be expected to be received by the employee in consequence of the voluntary termination of his or her employment at the time of the dismissal.

(2) A genuine redundancy payment must satisfy the following conditions:

(a) the employee is dismissed before the earlier of the following:

(i) the day he or she turned 65;

(ii) if the employee's employment would have terminated when he or she reached a particular age or completed a particular period of service - the day he or she would reach the age or complete the period of service (as the case may be);

(b) if the dismissal was not at *arm's length - the payment does not exceed the amount that could reasonably be expected to be made if the dismissal were at arm's length;

(c) at the time of the dismissal, there was no *arrangement between the employee and the employer, or between the employer and another person, to employ the employee after the dismissal.

(3) However, a genuine redundancy payment does not include any part of a payment that was received by the employee in lieu of *superannuation benefits to which the employee may have become entitled at the time the payment was received or at a later time.

(4) A payment is not a genuine redundancy payment if it is a payment mentioned in section 82-135 (apart from paragraph 82-135(e)).

Paragraph 82-135(e) provides that 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.

Section 83-170 applies to treat so much of the relevant payment (that does not exceed the amount worked out under a specified formula) as tax-free. That is, the tax-free part is not assessable income and is not exempt income.

Under subsection 83-175(1), one of the criteria to be met is that the payment is 'received by an employee who is dismissed from employment' because the employee's position is genuinely redundant.

In Taxation Ruling 2009/2 Income tax: genuine redundancy payments (TR2009/2), the Commissioner has outlined the requirements to be satisfied before any payment made to a person whose employment is terminated qualifies for treatment as a genuine redundancy payment under section 83-175 of the ITAA 1997.

There are four necessary components within this termination requirement:

1. The payment being tested must be received in consequence of an employee's termination.

2. That termination must involve the employee being dismissed from employment.

3. That dismissal must be caused by the redundancy of the employee's position.

4. The redundancy payment must be made genuinely because of a redundancy.

Component 1: Payment being tested must be received in consequence of an employee's termination.

Payments made in consequence of the termination of a taxpayer's employment are known as employment termination payments and defined in section 82-130 of the ITAA 1997.

It has been established above that the payment has been received in consequence of termination. In the absence of evidence to the contrary and subject to the conditions of paragraphs 82-130(1)(b) and 82-130(1)(c), it is considered the requirement of the first component of subsection 83-175(1) of the ITAA 1997 has been satisfied.

Component 2: That termination must involve the employee being dismissed from employment.

Dismissal is a particular mode of employment termination and requires a decision to terminate employment at the employer's initiative without the consent of the employee. This stands in contrast to employment that is terminated at the initiative of the employee, for example in the case of resignation.

On the basis of the facts as presented in your case, it is considered you were dismissed from employment at the initiative of your former employer. Therefore, this second component of subsection 83-175(1) of the ITAA 1997 has been satisfied.

Component 3: That dismissal must be caused by the redundancy of the employee's position.

Section 83-175 of the ITAA 1997 requires that the dismissal be caused by redundancy of the employee's position and not for some other reason.

The Commissioner at paragraphs 23 to 27 of TR 2009/2 discusses this third component as follows:

23. As noted in paragraph 18 of this Ruling, dismissal is a particular mode of employment termination. Section 83-175 further requires that the dismissal be caused by redundancy of the employee's position, and not for some other reason.

24. As is the case in determining if there is a dismissal, the reason for a dismissal is to be established in light of the facts and circumstances of each case. The redundancy of the relevant position must be the prevailing or most influential reason for the dismissal if there is more than one contributing cause.

25. An employee's position is redundant when an employer determines that it is superfluous to the employer's needs and the employer does not want the position to be occupied by anyone. Accordingly, it is fundamentally the employer's decision that a position is redundant. On occasion the decision may be unavoidable due to the circumstances surrounding the employer's operations.

26. In some circumstances, an employer may reallocate the duties and functions attached to a particular position to another position within the employer's organisational structure. In such cases, the former position is redundant. However, if the employee who had been working in that position is still employed by the employer following the reallocation of duties and functions, there will not be a dismissal.

27. On the other hand, if an employer decides after downsizing or some other structural reorganisation to terminate an employee, the former position of the employee is redundant as long as the downsizing or reorganisation is the prevailing or most influential cause of the termination.

As discussed earlier, in considering if a payment is a genuine redundancy payment, the Commissioner considers that redundancy must be the prevailing or most influential cause of the dismissal.

It can be established from the termination letter from your former employer that it was stated to you that, as a result of an entity associated with your former employer transferring a specific part of their business to another associated entity, your position was no longer needed. As a consequence, this organisational change led to the termination of your employment in XXX 2010.

Relevant paragraphs from the above letter referred to the termination of your employment by reason of redundancy.

From the extracts of that letter, it can be seen that it was explained to you that as a consequence of the organisation change within the associated entities of your former employer the position you held with your former employer was no longer needed resulting in the termination of your employment in XXX 2010.

The above circumstances that led to your dismissal is consistent with the circumstances the Commissioner has outlined in TR 2009/2 regarding the requirement that dismissal be caused by redundancy of the employee's position, and not for some other reason.

It can be established that it is the case your former employer made the ultimate decision to terminate your employment by dismissing you from the position you held because the position became redundant due to changes in their operational requirements.

In TR 2009/2, the Commissioner has also provided an explanation of how genuine redundancy payments fit within the termination payment regime at paragraphs 223 and 224:

223. An employee whose position becomes redundant and is consequently dismissed from employment may receive a variety of termination payments.

224. The payments may be sourced from legal entitlements of the employee or may be made gratuitously. Payment entitlements may arise under:

(a) the employee's employment contract'

(b) an industrial agreement that applies to the employee;

(c) statute or some other form of special Government funded scheme; or

(d) legal proceedings instituted following termination, whether under a contract award or settlement.

Therefore, based on the facts of your case, it is considered the third component of subsection 83-175(1) of the ITAA 1997 has also been satisfied.

Component 4:The redundancy payment must be made genuinely because of a redundancy.

The Commissioner has made it clear in paragraphs 31 to 32 of TR 2009/2 that contrived cases of redundancy will not meet the conditions in section 83-175 of the ITAA 1997.

It is evident that the prevailing reason you were dismissed from your employment was because your position was genuinely redundant. Your former employer advised you that your position was no longer needed due to the change in operational requirements as noted in the notice of termination letter you received in July 2010.

The facts of your case lead to the conclusion the reason for your dismissal was the redundancy of your position as evidenced by your notice of termination letter as discussed previously.

As such, it is considered the conditions for this fourth component of subsection 83-175(1) has also been met.

In TR 2009/2 the Commissioner has stated that even though the satisfaction of the requirements in subsection 83-175(1) of the ITAA 1997 establishes the essential character of the payment, there are, however, further conditions that must also be satisfied before a payment can be treated as a genuine redundancy payment in accordance with subsections 83-175(2) and 83-175(3), such as:

· the dismissed employee is not older than specified age limits;

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

· the actual amount that is paid is not greater than the amount that could reasonably be expected to be paid had the parties been dealing at arm's length;

· there is no arrangement to employ the dismissed employee after the termination; and

· the payment is not in lieu of superannuation benefits.

On the basis of the information provided, and in the absence of evidence to the contrary, it is also considered the conditions of subsections 83-75(2) and 83-175 (3) are also satisfied.

Consequently, it can be concluded the amount of the agreed lump sum payment, if paid pursuant to the terms of settlement as provided, will be a genuine redundancy payment as defined in section 83-175 of the ITAA 1997.

Consideration of a capital nature for, or in respect of, personal injury

Under paragraph 82-135(i) of the ITAA 1997, certain payments are also prevented from qualifying as ETPs such as reasonable capital payments for personal injury.

Paragraph 82-135(i) states:

a capital payment for, or in respect of, personal injury to you so far as the payment is reasonable having regard to the nature of the personal injury and its likely effect on your capacity to *derive income from personal exertion (within the meaning of the definition of income derived from personal exertion in subsection 6(1) of the Income Tax Assessment 1936;

Personal injury is not defined in the ITAA 1936 or ITAA 1997. The term 'personal injury' means a physical or mental injury and does not extend to include emotional hurt (Graham v. Robinson [1992] 1 VR 279, AAT Case 11,722 (1997) 35 ATR 1114; (1997) 97 ATC 258 and Re Applicant and Federal Commissioner of Taxation [2005] AATA 583; (2005) 2005 ATC 162; [2006] ALMD 8399; (2005) 59 ATR 1161).

The lump sum settlement payment, if paid pursuant to the terms of the settlement documentation, will not be considered a capital payment for, or in respect of, personal injury as you did not have a mental or physical injury.

Consequently, paragraph 82-135(i) of the ITAA 1997 will not operate to exclude the payment from being an ETP.

Taxation of a genuine redundancy payment

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) is not assessable income and is not exempt income. Any amount in excess of the tax-free amount is taxed as an employment termination payment. The formula for working out the tax-free amount is:

Base amount + (Service amount × Years of service)

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

For the 2010-11 income year:

· Base amount means $8,126; and

· Service amount means $4,064.

As discussed previously, it is concluded that the payment of the agreed lump sum is a genuine redundancy payment under section 83-175 of the ITAA 1997.

Your employment commenced during the recent year and ceased in the subsequent year. Hence the 'years of service' to which the genuine redundancy payment relates is less than one whole year of service.

Accordingly, the tax-free part of a genuine redundancy payment you can receive in the 2010-11 income year is $8,126. This tax-free amount is not assessable income and is not exempt income in accordance with subsection 83-170(2) of the ITAA 1997.

The balance of payment is an ETP and included as assessable income for the relevant income year.

Capital gains tax

The general CGT exemptions provisions are found in subdivision 118-A of the ITAA 1997. Included amongst them is an anti-overlap provision, section 118-20, which ensures that an amount cannot be assessable under both the CGT provisions and non CGT provisions. The effect of the anti-overlap provision is to reduce the amount of any assessable capital gain by any amount which is also assessable under non CGT provisions and by amounts which are exempt income.

Section 118-22 of the ITAA 1997 is a related section which recognises that a CGT event could give rise to an employment termination payment as well as a capital gain. It ensures that, for the purposes of section 118-20 only, the whole of the payment is included as assessable income.

Section 118-22 applies to the 2007-08 income year and later years and is as follows:

Superannuation lump sums and employment termination payments

In applying section 118-20, treat a *superannuation lump sum or an *employment termination payment that you receive as being included in your assessable income.

The combined effect of these two sections is that where a capital payment is assessable under a non-CGT provision, then it is treated as being assessable under that non-CGT provision.

Paragraph 118-37(1)(a) of the ITAA 1997 is as follows:

A *capital gain or *capital loss you make from a *CGT event relating directly to any of these is disregarded:

(a) compensation or damages you receive for any wrong or injury you suffer in your occupation;

In your ruling application you stated that the lump sum settlement payment is not otherwise assessable income as it will be disregarded as a capital gain by the operation of section 118-37 of the ITAA 1997.

In this regard, it is relevant to note the following comment made by Senior Member Dwyer of the Administrative Appeals Tribunal (AAT) in AAT Case 11,722 (1997) 35 ATR 1114; (1997) 97 ATC 258 at paragraph 31:

I accept Mr Gibb's submission that if the payment is caught, as I am satisfied it is, by s 27A(1), there is no advantage to the applicant in the fact that it would have been exempt by virtue of s 160ZB(1), if it were not so caught. …

The above was in respect of the eligible termination payment provisions which, prior to 1 July 2007, were contained in the ITAA 1936. The term 'eligible termination payment' was defined in former subsection 27A(1) in the ITAA 1936 and included any payments made in consequence of the termination of employment. Subsection 160ZB(1) of the ITAA 1936 was replaced by section 118-37 of the ITAA 1997 for the 1998-99 and later income years.

Therefore, as an amount is to be included as assessable income because it is an employment termination payment (ETP) under section 82-130 of the ITAA 1997 (the non CGT provision), it is to be disregarded as a capital gain under sections 118-20 and 118-22 of the ITAA 1997. The fact that the payment may also be disregarded as a capital gain under section 118-37 of the ITAA 1997 does not change the fact that it is assessable as an ETP.

Accordingly, the amount of the ETP is excluded from the capital gains tax (CGT) provisions and is assessable as an ETP. It is not a payment for personal injury.

Tax payable on the ETP

Individuals who are below their preservation age throughout the 2010-11 income year will pay no more than 30 per cent tax on the taxable component of the ETP that is within the ETP cap which is $160,000 for the 2010-11 income year.

On the basis of the information as provided, the ETP consists entirely of a taxable component, which if paid in the 2010-11 income year, will be subject to tax at the maximum rate of 30% plus Medicare levy.