Edited version of your written advice

Authorisation Number: 1051194458197

Date of advice: 23 February 2017

Ruling

Subject: Genuine redundancy

Question

Is any part of a lump sum payment of greater than $10,000 to be received by a person (the Client) from their former employer (the Employer) a genuine redundancy payment for the purposes of section 83-175 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes

This ruling applies for the following periods:

Income year ending 30 June 2017.

The scheme commences on:

1 July 2016

Relevant facts and circumstances

The Client commenced employment with the Employer in the 20AA-BB income year as a captain of a vessel.

The Employer carried on the business of selling retail fresh seafood and operating a licensed fishing boat. It employed X employees.

The Client was a director and shareholder of the Employer.

In the 20CC-DD income year, the Client received wages from the Employer.

In the 20CC-DD income year, directors of the Employer made a decision to cease operations and wind-up the company because their operations were no longer profitable.

To remain profitable, the Employer would have to purchase of a bigger vessel, however they were unable to obtain finance for the purchase, and so are obligated to wind-up the company.

Subsequently, the vessel and the retail shop operated by the Employer were sold.

The Client's employment was terminated on in 20DD-FF, as a result of the decision to wind-up the company.

The Client is expected to receive a redundancy payment.

The other employees of the Employer will also receive a redundancy payment of the same amount.

No part of the proposed redundancy payment is a payment in lieu of superannuation.

At the time of the Client's termination there was no arrangement between the Client and the Employer, or between the Employer and another person, to employ the Client after the termination.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 83-175

Income Tax Assessment Act 1997 subsection 83-175(1)

Income Tax Assessment Act 1997 subsection 83-175(2

Income Tax Assessment Act 1997 subsection 83-175(3)

Income Tax Assessment Act 1997 subsection 83-175(4)

Reasons for decision

Summary

The proposed redundancy payment to be received by the Client from the Employer is a genuine redundancy payment as defined in section 83-175 of the ITAA 1997.

Detailed reasoning

Genuine redundancy

Under subsection 83-175(1) of the ITAA 1997, a genuine redundancy payment is one received by an employee who is dismissed from employment because their position is genuinely redundant and exceeds the amount that could reasonably be expected to be received by them in consequence of the voluntary termination of their employment at the time of dismissal.

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

With regard to the first requirement set out in subsection 83-175(1) of the ITAA 1997, at paragraph 11 of TR 2009/2, the Commissioner of Taxation (the Commissioner) considers that there are four necessary components within this requirement:

● the payment must be received in consequence of an employee's termination;

● that termination must involve the employee being dismissed from employment;

● that dismissal must be caused by the redundancy of the employee's position; and

● the redundancy payment must be made genuinely because of a redundancy.

The satisfaction of this requirement establishes the essential character of the payment. However, there are further conditions that must also be satisfied before a payment can be treated as a genuine redundancy payment.

Payment 'in consequence of' termination

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' (TR 2003/13).

While TR 2003/13 contains references to repealed provisions, some of which may have been rewritten, the ruling still has effect 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.

In paragraph 5 of TR 2003/13 the Commissioner states:

5. ...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.

In this case, the Client's employment was terminated on in 20DD-FF and, as a result of the termination, the Client is to be paid a redundancy payment. But for the termination, the payment would not be made therefore, we consider the payment would be paid to the Client in consequence of the termination of their employment with the Employer.

'Dismissal' and 'redundancy'

The terms 'dismissal' and 'redundancy' are not defined in the ITAA 1997 therefore, consistent with basic principles of statutory interpretation, their meaning must be determined according to the ordinary meaning of the words, having regard to the context in which they appear.

The Commissioner's view, as stated in paragraphs 18 and 25 of TR 2009/2 is that:

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.

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.

From the facts presented, it is evident that a termination has occurred because the Employer does not want the Client's position to be occupied by anyone. However, as the Client was a dual capacity employee (an employee and director), it must be determined whether the decision to terminate their employment was effectively without their consent.

Dual capacity employee

As noted above, in paragraph 18 of TR 2009/2 dismissal requires termination of employment without the employees consent. Because a dual capacity employee can terminate their own employment or actively participate in or influence such an act or decision, careful consideration of all the facts and circumstances is required to determine whether a dual capacity employee has not consented to their termination.

'Consent' in this context refers to the employee freely choosing to agree to, or approve, the act or decision to terminate employment in circumstances where the employee has the capacity to make such a choice. Consent may be either expressly stated by the employee or implied by their behaviour or conduct (paragraph 19 of TR 2009/2).

A dual capacity employee, who, in their capacity as a directing mind of the employer, actively agrees to a decision of the employer to terminate their own employment, may nevertheless be dismissed if they do not freely consent to that termination decision. This will be evident where the influence of external circumstances is such that there is no apparent choice to be made or there is no awareness from those circumstances that consent or refusal is called for.

Such external circumstances include a termination decision that is dictated by legal or economic compulsion originating from outside the business. An industry specific or a general economic downturn is also more likely to give rise to these types of circumstances.

This recognises a form of constructive dismissal for dual capacity employees where they participate in and agree to a decision to terminate their own employment. While it appears that the dual capacity employee has consented to the termination, the reality is that the consent was not freely given.

In this case, directors had come to the conclusion that to remain in business, they would have to purchase a larger boat. However, it was not economically possible to purchase the larger boat and directors decided to cease operations and wind-up the company. Consequently, the Client's position was made redundant and their employment terminated on DDMMYY.

Based on the above, we consider that the decision to dismiss the Client was dictated by economic necessity which originated from outside the Employer's business and the Client had no choice but to consent to the termination. Therefore, the Client was dismissed from employment.

When the Employer sold their boat, the Client's position within the organisation effectively no longer existed and their employment was terminated. As such, the Client was dismissed because their position was redundant.

In addition, there is nothing to indicate that redundancy was in any way contrived therefore, we consider that the Client was dismissed from their employment as a result of genuine redundancy.

However, while it is accepted that the Client was dismissed from their employment because their position was genuinely redundant, subsection 83-175(1) of the ITAA 1997 also requires that the payment received exceeds the amount that they would have received had they voluntarily resigned from their employment.

If the Client had resigned voluntarily at the time of dismissal, they would not receive the redundancy payment. Therefore, this payment exceeds the amount that the Client could have reasonably expected to receive in consequence of an alternate mode of employment termination.

Accordingly, subsection 83-175(1) of the ITAA 1997 has been satisfied.

Further conditions for a genuine redundancy payment

In addition to the basic requirement for a genuine redundancy payment found in subsection 83-175(1) of the ITAA 1997, the further conditions for genuine redundancy payment treatment in subsections 83-175(2) and (3) of the ITAA 1997 require that:

● the employee is dismissed before they turn 65 or an earlier mandatory age (subparagraph 83-175(2)(a)(i));

● the termination is not at the end of a fixed period of employment (subparagraph 83-175(2)(a)(ii));

● 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 was at arm's length (paragraph 83-175(2)(b));

● there is no arrangement entered into between the employer and the employee or the employer and another entity to employ the dismissed employee after the termination (paragraph 83-175(2)(c); and

● the payment is not in lieu of superannuation benefits (subsection 83-175(3)).

In this case, at the time of termination the Client was under 65 years and the termination was not at the end of a fixed period of employment. Also, there was no arrangement between the Employer and the Client, or between the Employer and another entity, to employ the Client after the termination; and the payment is not in lieu of superannuation benefits.

However, as the Client was a director of the Employer, the relationship between the Client and the Employer at the time of dismissal was not at arm's length. That being the case, it must be shown that the amount to be paid was no more favourable to the Client than what could reasonably be expected had the parties been dealing at arm's length.

The 'arm's length' condition is discussed in TR 2009/2 where the Commissioner states:

43. This condition contrasts the actual non-arm's length dealing with a hypothetical arm's length dealing. Apart from this change, all other circumstances surrounding the termination of the employment relationship are assumed to be the same.

44. If the original employment arrangement (for example, an employment contract, award or other form of industrial agreement) involves an arm's length dealing, the amount that could reasonably be expected under an arm's length termination dealing is usually the redundancy entitlement, if any, under that arrangement. Special circumstances peculiar to the employee would be required to establish a reasonable expectation of an amount greater than the entitlement under the employment arrangement.

45. It does not necessarily follow that what could reasonably be expected at arm's length is zero if there is no contractual or other entitlement to a redundancy payment under an arm's length employment arrangement. It is reasonable in some circumstances to expect ex gratia redundancy payments to be made.

46. In any case, the years of service provided by the dismissed employee and the value of their remuneration package at the time of the dismissal are the most influential factors in determining what could reasonably be expected under an arm's length dealing.

Based on the above, we consider that the redundancy payment is not in excess of what could reasonably be expected if the dismissal was at arm's length because:

● the other employees are to receive the same redundancy amount as the Client; and

● the amount is not excessive relative to their remuneration.

Therefore, the requirements of paragraph 83-175(2)(b) of the ITAA 1997 would be satisfied.

Lastly, the redundancy payment is not excluded from the definition of a genuine redundancy payment. As such, subsection 83-175(4) of the ITAA 1997 has been satisfied.

As all the conditions under section 83-175 of the ITAA 1997 have been satisfied, it is considered that the redundancy payment to be received by the Client is a genuine redundancy payment.