Edited version of your written advice

Authorisation Number: 1012837702297

Date of advice: 9 July 2015

Ruling

Subject: Genuine redundancy payment

Question

Will any part of the payment received on termination of employment under a deed of release be a tax-free part of a genuine redundancy payment under section 83-170 of the Income Tax Assessment Act 1997?

Answer

Yes.

This ruling applies for the following period:

Year ended 30 June 20ZZ.

The scheme commenced on:

1 July 20YY.

Relevant facts and circumstances

Taxpayer was employed by the Employer for a number of years with the employment ending in the 20YY-ZZ income year.

The Taxpayer was originally on a fixed term contract which expired.

The signing of a new drafted contract was delayed due to the Employer's budgetary uncertainties.

In addition to budgetary uncertainties, the Taxpayer stated that the relationship between a relative of the Taxpayer, who was also an employee of the Employer, and an office holder (the Official) of the Employer had deteriorated significantly in the 20XX-YY year.

The Taxpayer stated that during the 20XX-YY income year the Official's treatment of the relative deteriorated to the extent that the Official would have no direct communication with the Taxpayer or the relative.

In relation to the Taxpayer's Contract the following was documented in the minutes of a Board meeting held during the 20YY-ZZ year:

a. The Taxpayer's remuneration package represented the entire rental income from premises owned by the Employer, being $G;

b. The lease with a major tenant was due to expire on a date in the 20YY-ZZ income year. Without a satisfactory replacement, the Employer would suffer a significant shortfall in its budgetary position;

c. The question of whether the Employer could afford to keep the Taxpayer without that rental income was raised; and.

d. Whether, at this point in time the draft contract had not been signed, the Taxpayer was:

• to be offered a contract until a specified date with the Taxpayer being on a full time salary at the current salary package; or

• a contract for a shorter period of time with the Taxpayer being on a part time salary.

The Contract was subsequently signed and it shows the Taxpayer's total remuneration package consisted of a cash component and a fringe benefit component equivalent to the rent the Employer receives less the cash component.

The Contract stipulates that the expiry date is no later than the end of the period when the Employer ceases to receive rental income from the main rental premises.

The Contract addresses termination on notice. It states:

(a) The Employer may terminate the Taxpayer's employment by giving either a specified number of months written notice or the remaining period of the Contract's Term (whichever is the lesser).

(b) At any time during the Term, the Taxpayer may terminate the employment by giving a specified number of months written notice.

The Contract addresses arrangements after giving notice. It states:

If the Taxpayer or Employer give notice of termination then the Employer may:

(a) Require the Taxpayer to continue duties for part or all of the notice period;

(b) Elect to make payment of the applicable portion of the Total Remuneration Package for the notice period to the Taxpayer instead of requiring them to continue duties for part or all of the notice period, in which case the Taxpayer's employment date ends when the payment is made; or

(c) Direct the Taxpayer not to perform any duties for part or all of the notice period and require the Taxpayer to remain away from the Employer.

The Contract addresses termination without notice. It covers situations where the Taxpayer is in breach of the Contract or is guilty of misconduct.

Due to the deteriorating relationship the Taxpayer made a complaint to an external third party resulting in the Official suspending of the Taxpayer on full pay.

Internal and external mediations were undertaken. Though the Taxpayer stated a preference to remain employed with the Employer in their current role, discussions were held between the parties in relation to a severance package.

The Official stated that in order to receive compensation the Taxpayer would be required to agree to the Employer's terms and for the termination of employment to be by a specified date.

The Taxpayer accepted the Employer's offer and signed Deed under which the Taxpayer resigned from the position that was held with the Employer.

Under the Deed, the Employer paid the Taxpayer:

(a) a gross payment of $X on a particular date; and

(b) on a later date:

• a gross payment of $Y, including unused leave entitlements; plus

• the title to the motor vehicle used by the Taxpayer which was valued at $Z. This was in lieu of a cash payment.

Based on calculations provided, the unused annual leave totalled $B.

The 20YY-ZZ PAYG payment summary issued to the Taxpayer is comprised of the following components:

From the above, $E was withheld as tax.

You have confirmed that:

(a) at the time of dismissal, there was no arrangement made by the Employer, or another person and the Taxpayer, to employ the Taxpayer after the dismissal; and

(b) the Employer did not subsequently employ a replacement for the Taxpayer.

Correspondence from the Official confirmed that the Taxpayer was offered a termination package as long as they agreed to resign by a specific date. If the Taxpayer did not agree, the Taxpayer's employment would have been terminated without notice.

The Taxpayer is less than 65 years of age.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 80-15.

Income Tax Assessment Act 1997 Section 83-10.

Income Tax Assessment Act 1997 Section 83-15.

Income Tax Assessment Act 1997 Section 83-170.

Income Tax Assessment Act 1997 Section 83-175.

Reasons for decision

Summary

Of the amount of $C that the Taxpayer received upon termination of their employment, $H represents a voluntary termination element and is taxed as an employment termination payment.

The remaining amount is a genuine redundancy payment. As the amount is below the tax-free amount of a genuine redundancy payment, it is non-assessable, non-exempt income.

Detailed reasoning

Genuine redundancy payment

A payment made to an employee is a genuine redundancy payment if it satisfies all the conditions set out in section 83-175 of the Income Tax Assessment Act 1997 (ITAA 1997).  This section states:

(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 and 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 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 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)).

Subsection 82-135 of the ITAA 1997 includes (among others):

_ superannuation benefits;

_ the payment of a pension or annuity; and

_ unused annual leave (paragraph 82-135(c)) or long service leave payments (paragraph 82-135(d)).

As such, the payment the Taxpayer received for unused annual leave does not constitute part of a genuine redundancy payment pursuant to subsection 82-135(4) of the ITAA 1997. The taxation treatment of this payment will be discussed in due course.

Similarly, the payment for normal salary does not constitute part of a genuine redundancy payment. This amount is taxable on an assessment basis at the Taxpayer's marginal tax rate.

Pursuant to section 80-15 of the ITAA 1997, the market value of the motor vehicle, being $Z, forms part of the termination payment together with the cash component of $C that the Taxpayer received.

Whether the total termination payment $F ($Z plus $C) will constitute a genuine redundancy payment will be addressed below.

In order to satisfy the definition of a genuine redundancy payment under subsection 83-175(1) of the ITAA 1997 one of the main requirements is that there must be a dismissal from employment and the dismissal must result from the position/s being made genuinely redundant.

The term dismissal is not defined in the ITAA 1997. Therefore, it is necessary to consider the common law or ordinary meaning of the term and the meaning the judicial authorities have ascribed to it.

Dismissal from employment

Taxation Ruling TR 2009/2, titled Income Tax: genuine redundancy payments, which outlines the Commissioners view of the requirements for a payment to qualify as a GRP under section 83-175 of the ITAA 1992, discusses what constitutes a 'dismissal'. In particular:

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.

22. Cases of 'constructive dismissal' are a dismissal for the purposes of subsection 83-175(1). Constructive dismissal is currently recognised to occur where the actions or behaviour of the employer in relation to the employment relationship effectively curtails the element of consent on the employee's behalf. The simplest example of constructive dismissal is where an employee resigns under threat (explicit or implicit) of dismissal.

The facts show that the Taxpayer accepted their termination package and resigned their position. However, due to the budgetary uncertainties faced by the Employer and the nature of the deteriorating relationship between the Taxpayer and the Employer, it is necessary to consider whether a constructive dismissal took place.

The Commissioner expands on the issue of a constructive dismissal at paragraphs 256 to 258 of TR 2009/2, specifically:

256. As recognised in Smith, the concept of dismissal extends to 'constructive dismissal'. This refers to a termination that gives the appearance of employee consent, but in substance reflects the same circumstances as would have been the case if the employee had been dismissed - that is, an employer initiated termination without the employee's consent. In Blaikie v. South Australian Superannuation Board , Olsson J, quoting his own decision in R v. Prince Alfred College stated:

The fact that the act of resignation subsumed the act of dismissal does not alter the essential character of the transactions between the parties. By virtue of the implicit waiver of the original act of formal dismissal by the employer, the applicant was, in reality, in a position in which he had resigned because he had been given virtually no option but to do so ...

From the facts it is clear that it was the Employer's budgetary concerns that initiated the ultimate termination of the Taxpayer's employment. It was made well known in a Board meeting that the Employer would not be able to afford the Taxpayer's contract after the date when a major lease was due to expire.

It can also be seen that an issue arose with the Contract's expiry date. Whilst the expiry date is stated as being no later than the end of the period when the Employer ceases to receive rental income from the main rental premises, it does not specify that it relates to the end of the current lease nor does it state a minimum rental income required.

Accordingly, notwithstanding the current lease on the main premises was expiring, provided the Employer was receiving some rental income from the premises albeit potentially less, the Contract did not have a definite expiry date. As such, it is clear the Employer could not wholly rely on an expiry date within the Contract to terminate the Taxpayer's employment as it was based on the potential for a new tenant in future.

Concurrently, the relationship between the Taxpayer and the Official over this period deteriorated significantly to the extent that the Taxpayer lodged a complaint to an external third party. This resulted in the Taxpayer later being suspended on full pay until the issues between the parties were resolved.

Throughout the mediation processes it became clear that the Employer did not intend renegotiating the terms of the Contract. The facts show that the Employer's focus was negotiating a severance package on the grounds that the Taxpayer's employment would be terminated as soon as possible.

When considering the Employer's intention together with the deteriorating relationship between the Taxpayer and the Official and the fact that the Contract did not have a guaranteed expiry date, it is clear the substance of the employment termination more accurately reflects a dismissal. That is, the Employer initiated the termination of the Taxpayer's employment without the Taxpayer's consent.

It is concluded that the termination of the Taxpayer's employment constitutes a constructive dismissal and therefore a 'dismissal' for the purposes of subsection 83-175(1) of the ITAA 1997.

The remaining conditions under section 83-175 of the ITAA 1997 are satisfied as:

• The Taxpayer's position was made genuinely redundant due to budgetary issues;

• The Taxpayer's employment was terminated before the end of a fixed period of employment;

• The actual amount paid is not greater than an arm's-length amount;

• The Taxpayer is less than 65 years of age;

• There was no arrangement between the Taxpayer and the Employer or between the Employer and another person, to employ the Taxpayer following the termination of employment; and

• According to the termination payment calculations provided, no amount was received by the Taxpayer in lieu of superannuation.

Tax treatment of genuine redundancy payments

A payment meeting the conditions in section 83-175 of the ITAA 1997 can be divided into three elements; the voluntary termination element, the tax-free part of a genuine redundancy payment and the taxable amount of a genuine redundancy payment.

Voluntary termination element

Subsection 83-175(1) of the ITAA 1997 identifies the amount specifically attributable to redundancy by deducting the amount that could reasonably be expected to be received by the employee if they had voluntarily terminated employment at the time of being dismissed. This is referred to as the voluntary termination element of a redundancy payment.

According to TR 2009/2, apart from a hypothetical change from a dismissal to voluntary termination, all other circumstances surrounding the termination are assumed to be the same.

Under certain clauses of the Contract it shows that where the Taxpayer initiates voluntarily resignation the Taxpayer is required to provide a specified number of month's written notice. Once notice is given, the Employer can either require the Taxpayer to continue duties for part or all of the notice period, being the specified months, or elect to pay out the balance of the total remuneration package for the notice period and have employment terminated upon payment.

At the time of the Taxpayer's redundancy, it is clear from the facts that the Employer did not want the Taxpayer to work out a particular notice period or work to the end of the Contract. Therefore, in light of the abovementioned clauses of the Contract it is considered reasonable that the Employer would elect to pay out the balance of the Taxpayer's total remuneration package for the specified months' notice period.

The amount that the Taxpayer could reasonably have been expected to be paid on voluntary termination in comparable circumstances is $H. This represents half their current salary of $G and is equivalent to the specified months' notice period.

This voluntary termination element of $H is taxed as an employment termination payment.

Consequently, the amount of the termination package the Taxpayer received that is attributed to redundancy becomes $I ($F less $H).

Tax-free amount 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 non-assessable, non-exempt income. Any amount in excess of the tax-free amount is taxed as an employment termination payment (ETP). The formula for working out the tax-free amount is:

Base amount + (Service amount × Years of service)

For the 20YY-ZZ income year:

Base amount is $;

Service amount is $; and

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

As the payment of $I is below the tax-free amount calculated with reference to the above, the amount represents the tax-free part of a genuine redundancy payment. This tax-free amount is non-assessable, non-exempt income under subsection 83-170(2) of the ITAA 1997.

Taxation treatment of unused annual leave

Unused annual leave is assessable income under section 83-10 of the ITAA 1997 and is ordinarily subject to marginal rates of tax. However, as this payment was made in connection with a genuine redundancy payment, section 83-15 allows a tax offset to ensure that the rate of tax on this amount does not exceed 30%.