Edited version of your private ruling

Authorisation Number: 1012137315036

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. If you have any concerns about this ruling you wish to discuss, you will find our contact details in the fact sheet.

Ruling

Subject: Payment made under a Deed of Release

Issue

Questions

Is an out of court settlement paid under a Deed of Release (the Deed) a superannuation lump sum?

Is an out of court settlement paid under the Deed, considered to be an employment termination payment as defined in section 82-130 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Is a lump sum payment made in respect of compensation, assessable in the hands of the recipient?

Advice/Answers

No.

No.

No.

This ruling applies for the following period

For the year ended 30 June 2011

The scheme commenced on

1 January 1984

Relevant facts

Over 20 years ago, your client commenced employment with an employer (the employer) and retired from that employment in the 2008-09 income year.

Superannuation funds (the Funds) provided for superannuation for employees of the employer who became members of the Funds.

In 1992, when superannuation became compulsory by law, and after a specified probationary period, your client became eligible to join one of the Funds.

In the 2008-09 income year, your client ceased full-time employment, having suffered a medical condition, however did some relief employment on a spasmodic basis until the second quarter of the 2009-10 income year.

Your client claimed that she was eligible to join one of the Funds. However, due to the actions or omissions of the employer and other entities, did not join either of the Funds.

As a result of the membership not being offered, your client lost the growth in superannuation that would have accrued over a number of years.

Your client commenced legal action in the fourth quarter of the 2008-09 income year in a State court against the employer and other entities.

Your client made allegations against the employer and other entities regarding their advice and the lost opportunity of joining the Funds on and from the commencement of employment.

Your client claimed that the advice given by the paymaster was either negligently and/or wrongfully as your client was eligible to be a member of the Funds during the period of employment with the employer.

The claims made by your client were denied by the employer and other entities.

The proceedings commenced in the fourth quarter of the 2008-09 income year however, in the Deed, made in the second quarter of the 2010-11 income year, both parties agreed to settle the claims under the terms of the Deed.

At a clause of the Deed the parties agreed that an entity of the employer would pay a specified amount to your client plus costs including GST and disbursements in full and final settlement of the Claim plus a further amount in respect to taxation.

At a specified clause of the Deed, it states that your client releases the employer and other entities from any claims, actions, suits, demands, damages, charges, costs and expenses of every description whatsoever which your client has or may have had against the employer and other entities in respect to any benefit or entitlement connected with superannuation for which your client claims would have received or been entitled to receive but for the acts or omissions of the employer and other entities arising out of your client's employment.

In the PAYG payment summary - individual non-business made by the employer to your client for the year ending 30 June 2011, it shows a payment amount at Lump Sum E with an amount of tax withheld. The details show the amount accrued prior to 01/07/2008.

Your client is over the age of 65 years.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 6-5.

Income Tax Assessment Act 1997 Section 6-10.

Income Tax Assessment Act 1997 Section 82-130.

Income Tax Assessment Act 1997 Subsection 82-130(1).

Income Tax Assessment Act 1997 Subparagraph 82-130(1)(a)(i).

Income Tax Assessment Act 1997 Subparagraph 82-130(1)(a)(ii).

Income Tax Assessment Act 1997 Section 82-135.

Income Tax Assessment Act 1997 Section 118-37.

Income Tax Assessment Act 1997 Section 118-305.

Income Tax Assessment Act 1997 Section 995-1.

Reasons for decision

Issue

Question 1

Summary

The payment made to your client was not made by a superannuation fund therefore the payment is not a superannuation lump sum.

Detailed reasoning

Superannuation lump sum payment

Subsection 995-1(1) of the Income Tax Assessment Act 1997 (ITAA 1997), defines a superannuation benefit as having the meaning given by section 307-5.

A lump sum payment made to a person from a superannuation fund is referred to as a superannuation lump sum. A superannuation lump sum is a superannuation benefit that is not a superannuation income stream benefit (section 307-65 of the ITAA 1997).

The table contained in subsection 307-5(1) of the ITAA 1997 lists various types of superannuation benefits. One type of superannuation benefit is a superannuation fund payment. Item 1 of the table states that a superannuation fund payment will be a superannuation member benefit if it is:

A payment to you from a superannuation fund because you are a fund member.

In this case, the payment was made by an entity of the employer to your client under the terms of the Deed.

The payment made to your client did not arise as a result of your client being a fund member. Although the payment was made in respect of benefits or entitlements connected to superannuation, it was not made to your client by a superannuation fund.

Therefore the payment made to your client under the Deed is not a superannuation lump sum.

Question 2

Summary

The payment made to your client under the Deed in the 20010-11 income year is not an employment termination payment as the payment was not made in consequence of your client's termination of employment.

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 82-130(1)(a)(i) of the ITAA 1997 applies.

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

· a 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.

To determine if a payment constitutes an employment termination payment, all the conditions in section 82-130 of the ITAA 1997 must be satisfied.

Failure to satisfy any of the conditions under subsection 82-130(1) of the ITAA 1997 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

For a payment to be treated as an employment termination payment, the first condition that needs to be met is that there must be a payment that is made in consequence of the termination of employment of the taxpayer (see subparagraph 82-130(1)(a)(i) of the ITAA 1997).

The phrase in consequence of is not defined in the ITAA 1997. However, the courts have interpreted the phrase in a number of cases. Whilst the courts have divergent views on the meaning of this phrase, the Commissioner's view on the meaning and application of the in consequence of test are set out in Taxation Ruling TR 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.

While TR 2003/13 considered the meaning of the phrase 'in consequence of' in the context of the eligible termination payments. TR 2003/13 can still be relied upon as both the former provision under the Income Tax Assessment Act 1936 and the current provision under the ITAA 1997 both use the term in consequence of in the same manner. From 1 July 2007, eligible termination payments ceased to exist and replaced by employment termination payments.

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'.

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.

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 your client made allegations of being denied the right to join one of the superannuation funds, and commenced legal proceedings in a State court against the employer and other entities. Your client's claims were for lost growth in superannuation over a specified period prior to superannuation being made compulsory by law in 1992.

Discussions were held between the parties where an agreement was reached. The matter was settled out of court and the Deed was signed by both parties. The payment was agreed to be made to your client.

Furthermore, under the terms of the Deed, release was given by your client and at a specified clause it states that your client releases the employer and other entities from any claims, actions, suits, demands, damages, charges, costs and expenses of every description whatsoever which your client has or may have had against the employer and other entities in respect to any benefit or entitlement connected with superannuation for which your client claims would have received or been entitled to receive but for the acts or omissions of the employer and other entities arising out of your client's employment.

The payment made to your client did not arise as a result of the termination of your client's employment with the employer. While the payment was made in respect of your client, the payment was not made as 'in consequence of' any termination of employment of your client. That is, the payment did not follow as an effect or result of the termination of employment nor was the payment conditional on the termination of your client's employment with the employer.

Therefore, it is considered that the payment is not in consequence of the termination of your client's employment.

As the payment was not made in consequence of the termination of your client's employment with the employer, the first condition under paragraph 82-130(1)(a) of the ITAA 1997 has not been satisfied.

Given the failure to satisfy paragraph, 82-130(1)(a), of the ITAA 1997 it is not necessary to consider the application of paragraphs 82-130(1)(b) and (c) because, as previously noted, for a payment to constitute an employment termination payment, all the conditions in subsection 82-130(1) need to be satisfied.

Therefore, as the first condition has not been satisfied the payment is not an employment termination payment under subsection 82-130(1) of the ITAA 1997 and therefore Division 82 will not apply to the payment.

Question 3

Summary

The lump sum payment received by your client pursuant to the Deed is not assessable, either as ordinary income or under the CGT provisions.

Detailed reasoning

Whether a compensation payment is capital or revenue depends on what the compensation payment is intended to replace. Generally, a payment will be on revenue account if it is intended to replace another amount which would have been income. It is therefore necessary to distinguish between compensation for loss of income on the one hand and compensation for the loss of the ability to produce income or the right to receive income on the other.

In your client's situation, the payment that your client received was not intended to replace another amount which would have been income. It was compensation for a wrong that your client suffered in your client's occupation. Accordingly, the payment that your client received as a result of entering into the Deed was capital proceeds in respect of relinquishing your client's right to sue.

The right to sue in respect of any alleged loss suffered is considered to be an intangible CGT asset owned by a person entitled to compensation.

In your client's case, paragraph 118-37(1)(a) of the ITAA 1997 needs to be considered as this operates to disregard a capital gain or capital loss from a CGT event which relates directly to compensation or damages received for any wrong or injury suffered by a person in their occupation.

Accordingly, in your client's case, the compensation received by your client was for a wrong suffered by your client in your client's occupation. The 'wrong' suffered for the purposes of paragraphs 118-37(1)(a) or (b) of the ITAA 1997 is the loss that your client had suffered and therefore, the lump sum payment is exempt from capital gains tax (CGT).

In conclusion, the lump sum payment received by your client pursuant to the Deed is not assessable, either as ordinary income or under the CGT provisions.