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Ruling

Subject: Assessability of retention benefit

Question 1

Does a retention benefit form part of your assessable income, if it is received when not serving overseas on active duty?

Answer:

Yes

This ruling applies for the following period

Year ending 30 June 2011

The scheme commenced on

01 July 2010

Relevant facts

You are a resident of Australia for taxation purposes.

You are a member of the Australian Defence Force (ADF).

You served overseas as part of a particular Operation for a short period of time.

Your pay and allowances earned by you whilst serving as a member of the ADF are exempt from tax if you are on "eligible duty". Duty with the particular Operation starting on a specified date and ending on another specified date has been declared as eligible duty.

You were eligible and expected to receive a retention benefit. The retention benefit is a year's salary that is offered to ADF members in exchange for a commitment to undertake an additional five years of service. It is offered to ADF members on a particular anniversary of their enlistment date. You met all the requirements to receive this benefit. You were deployed to the Operation on the date which the retention benefit was expected.

You lodged your application to receive your retention benefit 90 days prior to your anniversary of enlistment date. Your application was not accepted at this time.

The processing of the paperwork to recognise you as eligible to receive the retention benefit took many months. The delays in the processing of the paperwork meant that you were not granted the retention benefit on the anniversary of your enlistment date. You did not receive the retention benefit for some months after this date despite abiding to all administrative requirements. You eventually received the retention benefit after returning from the Operation. You made numerous efforts by phone, E-Mail and letter to follow up the progress of your application for the retention benefit.

As part of the processing of your retention benefit election application the relevant Minister had to sign paperwork identifying you as an "eligible member". Defence would not process the nomination of eligible members to the Minister because the Federal Government was in caretaker government mode. Defence advised that you were not paid the benefit at the time you were eligible and due to receive it as your paperwork could not be processed due to a number of processing delays including the Federal Government being in 'caretaker' mode. You argued with the ADF that routine administration such as this paperwork should have continued to be processed despite the caretaker government mode. You have been advised by the ADF to request justice through an independent tax ruling.

You expected to receive the retention benefit free of tax as you were on eligible duty on the Operation at the time you were due to receive it. Since it was paid after you returned from the Operation to Australia, when your pay and allowances were not exempt from tax, it formed part of your assessable income.

Relevant legislative provisions

Income Tax Assessment Act 1936

Section 23AD

Subsection 23AD(1)

Subsection 23AD(2)

Income Tax Assessment Act 1997

Subsection 6-5(2)

Subsection 6-15(2)

Subsection 11-15

Income Tax Regulations 1936

Regulation 7A

Paragraph 7A(a)

Reasons for decision

Question 1

Subsection 6-5(2) of the Income Tax Assessment Act 1997 (ITAA 1997) provides that the assessable income of an Australian resident includes ordinary income derived from all sources, whether in or out of Australia, during the year of income.

A retention bonus is an additional reward payment derived by a taxpayer in the capacity as an employee (Dean & Anor v. Federal Commissioner of Taxation (1997) 37 ATR 52; 97 ATC 4762 (Dean's Case)). A retention benefit paid under the MSBA 1991 is therefore ordinary income for the purposes of subsection 6-5(2) of the ITAA 1997.

Subsection 6-15(2) of the ITAA 1997 provides that if an amount is exempt income then it is not assessable income.

Section 11-15 of the ITAA 1997 lists those provisions dealing with income which may be exempt. Included in this list is section 23AD of the Income Tax Assessment Act 1936 (ITAA 1936) which deals with pay and allowances received by ADF members performing certain overseas duty.

Subsection 23AD(1) of the ITAA 1936 provides that the pay and allowances earned by a person serving as a member of the Defence Force are exempt from tax if:

(a) they are earned while there is in force a certificate in writing issued by the Chief of the Defence Force to the effect that the person is on eligible duty with a specified organisation in a specified area outside Australia; and

(b) the eligible duty is not as, or under, an attaché at an Australian embassy or legation.

Subsection 23AD(2) of the ITAA 1936 provides that the regulations may declare that duty with a specified organisation, in a specified area outside Australia and after a specified day, is eligible duty for the purposes of the exemption.

Paragraph (a) of Regulation 7A of the Income Tax Regulations 1936 (the 1936 Regulations) provides that for the purposes of subsection 23AD(2) of the ITAA 1936, duty with Operation Slipper starting on 31 July 2009 and ending at the end of 30 June 2012 in an area bounded by specific geographical coordinates, primarily within Afghanistan, is eligible duty.

In your case, your deployment as part of the Operation qualifies as eligible duty under regulation 7A of the 1936 Regulations for the purposes of Subsection 23AD(2) of the ITAA 1936.

Pay and Allowances

The retention benefit will fall for consideration under section 23AD of the ITAA 1936 if it falls within the meaning of the term 'pay and allowances'.

The term 'pay and allowances' is not defined in section 23AD of the ITAA 1936 or elsewhere, but it may reasonably be construed to refer to salary, wages, bonuses and allowances received by an ADF member in their capacity of an employee.

Dean's case provides authority for the proposition that a retention bonus is salary and wages for tax purposes. In that case, it was decided that a retention bonus was 'in substance and reality' an additional reward for services provided, and was received by the taxpayer in their capacity as an employee. In addition, it was found that the retention bonus was 'principally for the labour' of the taxpayer and therefore were within the definition of 'salary and wages' for tax purposes.

As such, it is accepted that as a retention benefit is salary and wages, it falls within the term 'pay and allowances' for the purposes of section 23AD of the ITAA 1936.

Time when retention benefit is earned

A retention bonus is derived at the time it is received ((1958) 9 TBRD Case J20; 7 CTBR (NS) Case 130; and (1958) 9 TBRD Case J60; 8 CTBR (NS) Case 50). Therefore, the retention benefit is earned by the taxpayer at the time it is received.

In your case, you were paid the retention benefit after you returned to Australia from your deployment to the Operation. At this point in time, you were not on eligible duty for the purposes of subsection 23AD(2) of the ITAA 1936. Consequently, your retention benefit which is part of your pay and allowances is not exempt from income tax. Accordingly, your retention benefit forms part of your assessable income in terms of subsection 6-5(2) of the ITAA 1936.

Note

Your retention benefit at the time it was paid forms part of your assessable income. There is no discretion under taxation laws that would allow a reimbursement of tax paid on the retention benefit due to its payment after its due and expected date.

If the retention benefit was received on the anniversary date of your enlistment while you were on eligible duty when deployed on the Operation, it would have been exempt from tax under section 23AD of the ITAA 1936 and would not have been assessable under subsection 6-5(2) of the ITAA 1997.