Edited version of private ruling

Authorisation Number: 1011857683163

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Ruling

Subject: Genuine redundancy payment

Question:

Is any part of the payment to be received on termination of employment exempt from tax as a genuine redundancy payment?

Advice/Answer:

No.

This ruling applies for the following period:

Year ending 30 June 2012

The scheme commences on:

1 July 2011

Relevant facts and circumstances

You commenced employment with the Employer (the Employer) more than 9 years ago.

During the 2010-11 income year the Employer advised you that the business operated by the Employer would be terminated.

Subsequent to being advised of the Employer's decision you held discussions with other entities to purchase the business through a corporate entity (the Company).

The Company, in which you hold the main interests, was established over 10 years ago.

In the 2010-11 income year your employment, and that of the Employer's other employees, was terminated. At the time of termination you were employed on a full time basis with a particular role in the business.

In the 2011-12 income year the Company purchased the business as a going concern from the Employer.

You stated that had not the Company purchased the business, the Employer would have placed the business for sale on the market.

Upon the sale of the business to the Company your position changed to one which included more roles and responsibilities.

During the 2011-12 income year the Employer paid you a redundancy payment (the payment) which was calculated taking into account your past years service.

No part of the payment is in lieu of superannuation benefits.

Had you voluntarily terminated employment the only payments you would have received would be in relation to unused annual leave.

You are less than 55 years of age.

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 Subsection 82-130(2).

Income Tax Assessment Act 1997 Section 82-135.

Income Tax Assessment Act 1997 Subsection 82-135(1).

Income Tax Assessment Act 1997 Subsection 82-135(2).

Income Tax Assessment Act 1997 Paragraph 82-135(2)(c).

Reasons for decision

These reasons for decision accompany the Notice of private ruling.

While these reasons are not part of the private ruling, we provide them to help you to understand how we reached our decision.

Summary

The payment you received in relation to your termination of employment is not a genuine redundancy payment as at the time of the dismissal there was an arrangement with the employer relating to your employment after the dismissal.

Detailed reasoning

Employment termination payment

From 1 July 2007 the taxation treatment of payments made in consequence of the termination of any employment of a taxpayer has changed. These payments formerly known as eligible termination payments are now called employment termination payments. Where the payment is made during the life of a taxpayer the employment termination payment is a life benefit termination payment (subsection 82-130(2) of the Income Tax Assessment Act 1997 (ITAA 1997)).

Section 995-1 of the ITAA 1997 states:

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

Subsection 82-130(1) of the ITAA 1997 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 persons death, in consequence of the termination of the other persons 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.

Payment is made in consequence of the termination of employment

The first condition to be met is that there must be an employment termination payment that is made in consequence of the termination of employment of the taxpayer.

The phrase in consequence of is not defined in the ITAA 1997. However, the Commissioner has issued Taxation Ruling TR 2003/13 which discusses the meaning of the phrase.

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).

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.

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

In this case, you were employed in a business (the business) operated by the Employer. As the result of a decision made by the Employer that the business would be sold, your employment with the Employer was terminated during the 2010-11 income year.

In recognition of the termination of employment and your past years of service with the Employer, the Employer made a lump sum payment (the payment) to you shortly after your termination of employment.

In view of the above, it is evident that the payment made to you was in consequence of your termination of employment. The payment would not have been made had there been no termination of employment. The termination of employment and the payment are all intertwined and connected. If not for the termination of employment, the issue of paying a lump sum would not have arisen.

The payment is therefore considered to have been received by you in consequence of the termination of employment. Therefore the requirement of subsection 82-130(1)(a) of the ITAA 1997 will be met.

The payment is received no later than 12 months after termination of employment

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, is that the employment termination payment was paid to the taxpayer no later than 12 months after their employment was terminated.

In this case you terminated employment in the 2010-11 income year and the payment was made to you by your former employer was made within 12 months after termination of employment. Therefore the requirement under paragraph 82-130(1)(b) of the ITAA 1997 will be met.

Payments excluded from being employment termination payments

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

an unused annual leave payment;

an unused long service leave payment; or

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

Relevant to this particular case is whether the payment represents the tax free part of a genuine redundancy payment.

Genuine redundancy payment

A payment made to an employee, after 30 June 2007, is a genuine redundancy payment (GRP) if it satisfies all the criteria set out in section 83-175 of the ITAA 1997.

Section 83-175 of the ITAA 1997 states:

(1) A genuine redundancy payment is so much of a payment received by an employee who is dismissed from employment because the employees 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 employees 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 arms length the payment does not exceed the amount that could reasonably be expected to be made if the dismissal were at arms 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 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.

Payments not covered

(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)).

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

In discussing what constitutes a GRP 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.

For the payment to be considered a GRP all the criteria set out in section 83-175 of the ITAA 1997 must be satisfied.

Payment in consequence of termination

The issue of whether the payment received by you was in consequence of the termination of your employment was discussed above. It was determined that the payment would be considered to be made in consequence of your termination of employment. Therefore the requirement that the payment must be received in consequence of a termination is met.

'Dismissal' and 'Redundancy'

Under subsection 83-175(1) of the ITAA 1997, a genuine redundancy payment is a payment resulting from:

(i) a dismissal; and

(ii) a redundancy.

The Explanatory Memorandum to the Income Tax Assessment Amendment Act (No.3) 1984 which inserted former section 27F into the ITAA 1936 states at page 91:

The terms dismissal and redundancy are not defined in the legislation and, therefore, should be given their ordinary meanings. Dismissal carries with it the concept of the involuntary (on the taxpayers part) termination of employment. Redundancy carries the concept that the requirements of the employer for employees to carry out work of a particular kind, or for employees to carry out work of a particular kind in the place where they were so employed, have ceased or diminished or are expected to cease or diminish. Redundancy, however, would not extend to the dismissal of an employee for personal or disciplinary reasons or for reasons that the employee was inefficient.

Consequently, it is necessary to consider the ordinary meaning of the terms 'dismissal' and 'redundancy' and the meaning the judicial authorities have ascribed to them.

Paragraphs 18 and 20 of TR 2009/2 discuss what constitutes dismissal:

18. Dismissal is a particular mode of employment termination. It 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.

20. A dismissal can still occur even where an employee has indicated that they would be interested in having their employment terminated, provided that the final decision to terminate employment remains solely with the employer. Such a case may arise where expressions of interest in receiving a redundancy package are sought from employees as part of a structured process undertaken by the employer as a means of promoting industrial harmony.

From the facts provided, it is considered that your termination of employment was a dismissal which was instigated by the Employer as a result of the Employer's having made a decision to divest itself of the business and no longer requiring the services of the business' employees. Accordingly, it is considered that the requirement of dismissal from employment has been met.

In relation to 'redundancy' paragraph 25 of TR 2009/2 provides the following meaning:

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.(emphasis added)

In your case it is considered that your position with the Employer was made redundant as the Employer's decision to divest itself of the business resulted not only in your services no longer being required by the Employer but also that it could not be occupied by any other person. Accordingly, it is considered that the requirement that the position held by you with the Employer was made redundant has been met.

In view of the above, and the payment exceeds what you would have received had you voluntarily terminated employment, it is considered that subsection 83-175(1) of the ITAA 1997 is satisfied.

Although subsection 83-175(1)of the ITAA 1997 has been met it should be noted that, as previously mentioned, all the conditions under section 83-175 of the ITAA 1997 must be satisfied before the payment is considered a genuine redundancy payment.

From the information provided it is accepted that paragraphs 83-175(2)(a) and 83-175(2)(b) of the ITAA 1997 are satisfied as:

(i) you were dismissed before reaching 65 years (and there is nothing to indicate that your employment would have terminated when you reached a particular age or completed a particular period of service); and

(ii) the dismissal was at arms length.

Notwithstanding the above, and the fact that subsection 83-175(3)of the ITAA 1997 is satisfied in that no part of the payment is in lieu of superannuation benefits, it is considered that paragraph 83-175(2)(c) has not been satisfied.

The condition in paragraph 83-175(2)(c) of the ITAA 1997 is that at the time of dismissal, there was no arrangement between employee and the employer, or between the employer and another person, to employ the employee after the dismissal.

Paragraphs 50 to 52 of TR 2009/2 discuss the requirement that there be 'no stipulated arrangement to employ' as follows:

50. Under paragraph 83-175(2)(c), an arrangement to employ an employee after his or her termination prevents a dismissal giving rise to a genuine redundancy payment if that arrangement is entered into between either:

· the employer and the dismissed employee; or

· the employer and another entity.

51. In the second of these two cases, the other entity would commonly be the new employer, although this need not necessarily be the case. For instance, there could be an arrangement between a subsidiary company, the employer, and a holding company, the other entity, to employ the terminating employee in another subsidiary company within the group.

52 The Commissioner considers that the phrase 'arrangement... to employ' in paragraph 83-175(2)(c) refers to common law employment only. This condition does not contemplate a situation where there is an arrangement to engage the former employee as an independent contractor.

Further, paragraphs 306 to 309 of TR 2009/2 state:

306. Under paragraph 83-175(2)(c), an arrangement to employ an employee after his or her termination may prevent a dismissal giving rise to a genuine redundancy payment. An arrangement in this context is defined widely:

Arrangement means any arrangement, agreement, understanding, promise or undertaking, whether express or implied, and whether or not enforceable (or intended to be enforceable) by legal proceedings.

307. In the Commissioner's view, the phrase 'arrangement...to employ' is confined to common law employment relationships. The apparent purpose of paragraph 83-175(2)(c) is to limit access to concessional tax treatment where an employee is terminated but is certain of continuing remuneration in the future under a common law employment contract because of an arrangement to which the employer is a party. (emphasis added)

308. For the condition in paragraph 83-175(2)(c) to fail, it is necessary for the employment arrangement to be entered into between either:

· the employer and the employee; or

· the employer and another entity.

309. Accordingly, if the employee has independently entered into an arrangement with another entity for that entity to employ him or her after the time of the dismissal from the original employer, the condition in paragraph 83-175(2)(c) will still be met. On the other hand, given the breadth of the meaning of 'arrangement', an implied understanding between two related companies at the time of an employee's dismissal with one of those companies to the effect that the employee will be employed at a later time with the other is sufficient for this condition not to be met.

In your case it is noted that your termination of employment was not on account of any fault or misdemeanour on your part but the result of the Employer's decision to sell the business. Therefore, regardless of whether the business was purchased by the Company or another entity, your employment with the Employer would have been terminated.

In this case the business was sold to the Company shortly after your termination of employment. This shows the Employer had been in negotiations to sell the business to the Company, an entity in which you have a major holding, prior to your termination of employment.

It is considered that given the information provided and your association with the Company, you would have been aware that after your termination of employment with the Employer you would continue employment with the business, albeit in a new position when purchased by the Company.

In view of the above it is considered that at the time of your termination of employment there was an arrangement between you and the Employer which ensured your continued employment in the business after your dismissal.

Accordingly, as there existed an arrangement to employ you after your termination of employment, paragraph 83-175(2)(c) of the ITAA 1997 has not been satisfied and the payment is prevented from being treated as a genuine redundancy payment.

Conclusion

As all the requirements that termination be as a result of genuine redundancy have not been satisfied, the payment that you received on termination of employment is not a genuine redundancy payment.

In light of the payment not being a genuine redundancy payment under section 83-175 of the ITAA 1997 no part of the payment will be tax-free under section 83-170 of the ITAA 1997 and the whole amount of the payment is to be included in your assessable income as an employment termination payment.