Edited version of your private ruling

Authorisation Number: 1012419565861

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: Income - compensation payment

Question and Answer

Is the compensation payment you received from an Australian company, as a non resident for Australia, for the loss of employment assessable as ordinary income?

No.

Is the compensation payment you received from an Australian company, as a non resident for Australia, for the loss of employment assessable under the CGT provisions?

No.

Is the payment made as a result of an Employment Agreement being cancelled considered to be an employment termination payment in accordance with subsection 82-130(1) of the Income Tax Assessment Act 1997 (ITAA 1997)?

No.

This ruling applies for the following period

1 July 2012 to 30 June 2013

Relevant facts and circumstances

This ruling is based on the facts stated in the description of the scheme that is set out below. If your circumstances are materially different from these facts, this ruling has no effect and you cannot rely on it. The fact sheet has more information about relying on your private ruling.

Relevant facts

You are a resident of the Country C.

You received a letter of appointment from an Australian company

You accepted an offer of employment from an Australian company under an Employment Agreement.

You were granted a Subclass 457 Visa.

You confirmed, via email, a commencement date for employment with the Australian Company.

You were contacted, via phone, by the Australian company and advised that due to a downturn in the mining sector there was no longer a position available for you in the company.

The Australian company offered a temporary 2 months fly in fly out position which you declined.

You had resigned from your previous employment one week prior to being advised your position was no longer available with the company.

You have never received a letter from the Australian company formally withdrawing your employment offer.

You commenced discussions with the Company regarding claims for compensation in relation to the Employment Agreement being cancelled and costs involved with your relocation from the Country C to Australia.

In a letter the Company advised that they would provide you the following:

An ex-gratia payment equivalent to 4 month's salary to be paid to you;

The return of your household/personal items to the Country C;

Storage of your household/personal items in the Country C for a period of up to 6 months;

Temporary accommodation in the Country C until your household/personal items arrive back in the country, up to a maximum period of 3 months.

In a pay advice from the Company a payment with an amount of tax withheld was made to you by cheque.

The pay advice shown as 'Term D' an amount with no tax withheld.

You did not sign a deed of release

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 6-5

Income Tax Assessment Act 1997 subsection 118-37(1)(b)

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 Section 82-135

Income Tax Assessment Act 1997 Section 995-1

Reasons for decision

Section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997) describes that the assessable income of an Australian resident includes ordinary and statutory income, derived directly and indirectly from all sources in or out of Australia.

Ordinary income

Ordinary income has generally been held to include three categories:

a) income from rendering personal services

b) income from property, and

c) income from carrying on a business.

Other characteristics of ordinary income include receipts that:

are earned

are expected

are relied upon, and

have an element of periodicity, recurrence or regularity.

Compensation receipts which substitute for income have been held by the courts to be income according to ordinary concepts. As such, amounts that have been received to compensate for loss of income will be subject to tax as income according to ordinary concepts.

Compensation payments

A compensation amount generally bears the character of that which it is designed to replace. If compensation is paid for the loss of a capital asset or amount then it will be regarded as a capital receipt and not ordinary income.

However, the compensation payment you received was for the loss of employment, therefore not income from rendering personal service, income from property or income from carrying on a business. The payment you received was also a one off payment which does not have an element of recurrence or regularity.

Taxation Ruling IT 2193 deals with the issue of compensation for loss of earning capacity. Although the discussion is in the context of compensation for motor vehicle accidents it is relevant to other types of compensation payments.

IT 2193 makes it clear that compensation for loss of earning capacity will not loose its character as a capital receipt, simply because the amount of compensation is calculated by reference to the amount of income that would have been earned.

Similarly the compensation payment you received was calculated on income you would have received if you had commenced work and worked for a period of four months. The compensation payment also included an amount for three months rental, as a consequence of the withdrawal of employment you had already rented out your own home and are now renting yourself.

Therefore, the compensation payment you received is considered capital in nature and not income.

Capital gains tax

Subsection 118-37(1)(b) of the ITAA 1997 disregards payments or receipts for the purpose of CGT, where the amount relates to compensation or damages a person received for any personal wrong, injury or illness.

Application to your circumstances

You received a compensation payment because you were offered employment which was withdrawn within a week of you taking up the position. You had resigned from your previous employment, rented out you home and had shipped you belongings to Australia.

The compensation payment is related to a personal wrong and therefore is an amount to which subsection 118-37(1)(b) of the ITAA 1997 applies.

Any capital gain or loss that you may have made in relation to the compensation payment is not assessable under the CGT provisions.

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) applies.

A death benefit termination payment is an employment termination payment to which subparagraph (1)(a)(ii) 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;

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

c) reasonable capital payments for personal injury.

To determine if the amount 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 but the courts have considered the meaning of the words 'in consequence of' in relation to 'eligible termination payments', the predecessor of employment termination payments.

Of note are the decisions made by the Full 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.

The Commissioner in Taxation Ruling TR 2003/13 considered the phrase 'in consequence of' as interpreted by the Courts. 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.

Thus, 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 and will be an employment termination payment unless it fails to satisfy the other requirements of an employment termination payment under section 82-130 of the ITAA 1997.

Application to your circumstances

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 the Company made an offer to you to commence employment which you had accepted under an Employment Agreement.

Upon accepting the position you applied for a Subclass 457 visa to enter and remain in Australia which was approved.

The Company notified you just prior to leaving the UK, that due to a downturn in the mining sector there was no longer a position available, therefore the Employment Agreement was terminated.

Although the Company made another offer to you of a temporary position for 2 months this offer was declined as this did not suit your personal circumstances and was not aligned to the previous offer you had received and accepted.

You commenced discussions with the Company regarding claims for compensation in relation to the Employment Agreement being cancelled and costs involved with the relocation from overseas to Australia.

It was mutually agreed between both parties that as you did not commence employment in Australia, the Company would pay you an ex-gratia payment to settle all matters in dispute between the parties.

The Company paid you an amount with an amount of tax withheld.

The payment being made by the Company was as a result of the Company withdrawing its offer of employment before you had commenced employment, and with you having discussions with the Company regarding their cancellation of your agreement and other costs involved in relocating to Australia.

In order for there to be a termination of employment there must be employment or the holding of an office, from which a person can be terminated. In the present case, the position ceased to be available before you could occupy it. Therefore, your employment could not have been terminated as the employment had not commenced. Similarly, there could not be a termination of office as you had never held the office.

In light of the foregoing and, in particular, the decisions made in Reseck and McIntosh, the payment will not be made 'in consequence' of the termination of employment (or office) as there has not been any termination of employment (or office) from which the payment can be said to have followed on.

Rather, it is considered that the payment will be made in consequence of the action for breach of contract.

Therefore the first requirement under subparagraph 82-130(a)(i) of the ITAA 1997 has not been satisfied.

Accordingly, the payment is not an employment termination payment and therefore not assessable under section 82-130 of the ITAA 1997.

Further, the payment is not an employment termination payment for the purpose of withholding under Subdivision 12-C of Schedule 1 to the Taxation Administration Act 1953.

You will be required to lodge an income tax return in order to receive a refund of the income tax your employer deducted from the compensation payment.

Please include a copy of this private ruling when lodging your income tax.