Edited version of private advice

Authorisation Number: 1051562410112

Date of advice: 10 October 2019

Ruling

Subject: Genuine redundancy payment for dual capacity employee

Question

Is a payment made to a dual capacity employee on termination of employment a genuine redundancy payment under section 83-175 of Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes

This ruling applies for the following period:

Year ended 30 June 2020

The scheme commences on:

1 July 2019

Relevant facts and circumstances

The applicant is a company (the Company) which is jointly owned by two individuals.

One of the individuals became the sole director of the Company.

The individual is also an employee and worked for the Company for several years.

The sale of the business was ordered.

There is no suitable position for the individual to work in other associated entities.

The rest of the employees found work with other associated entities.

The redundancy payment is worked out as per the Fair Work redundancy payment table.

The director as an employee will receive redundancy payment based on weekly wages and the continuous period of service with the Company.

Under voluntary termination of employment the individual will only receive unused long service leave.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 83-170

Income Tax Assessment Act 1997 Section 83-175

Reasons for decision

Dual capacity employee

A dual capacity employee (paragraph 79 of Taxation Ruling 2009/2) is a person who, in addition to being engaged as an employee of an employing entity, is also a directing mind of, or holds an office, with that entity. The most common example is a person who is a director of the employer while also being a common law employee of that company.

Paragraph 81 of TR 2009/2 it states that the same principles apply to a dual capacity employee as they apply to a single capacity employee when working out whether a termination payment is a genuine redundancy payment.

Genuine redundancy payment (GRP)

A payment made to an employee is a GRP if it satisfies all the conditions set out in section83-175 of the ITAA1997. It 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 as 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 the 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 employees 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 the 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)).

The basic requirement for a genuine redundancy payment

Under subsection 83-175(1) of the ITAA 1997, a genuine redundancy payment is one received by an employee who is dismissed from his or her employment because the employee's position is genuinely redundant (paragraph 10 of TR 2009/2). In paragraphs 11 and 234 of TR 2009/2 the Commissioner states that there are four necessary components within the basic genuine redundancy requirement, namely:

·         the payment must be received by an employee in consequence of the termination of his or her employment;

·         the 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.

First component - Payment 'in consequence of' termination

The Commissioner considers that any payment must be made 'in consequence of' the employee's termination before it can be a genuine redundancy payment. Taxation Ruling TR 2003/13 sets out the Commissioner's views on when a payment is made 'in consequence of' termination of employment.

The Commissioner considers that 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 Company has to be sold and the existing director has to comply with an order to sell the business, therefore the engagement as an employee is terminated. The payment made to the employee is as a consequence of the sale of the business and the termination of employment.

Second component - Dismissal from employment

Dismissal from employment means that the termination of employment is involuntary on the employee's part and the termination will ordinarily be initiated by the employer. Paragraph 18 of TR 2009/2 states that the 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.

Paragraph 83 and 84 of TR 2009/2 states

83. As consent is reflected in a person's state of mind, the Commissioner considers that is not possible for a person to consent to a decision in his or her capacity as a director of the employer, yet not consent to the same decision in his or her capacity as an employee.

84. It follows that the question of consent for a dual capacity employee can be addressed by considering the following two matters:

·         First, did the person agree to or approve the employer's act or decision to terminate their own employment? If not the termination is without the person's consent and is therefore a dismissal.

·         Secondly, if the person did agree to or approve the employer's act or decision to terminate their own employment, were the circumstances surrounding the act or decision such that the person did not have any real or practical choice in terminating their own employment. If so, the termination is without the person's consent and is therefore a dismissal.

Your case:-

·         The business must be sold.

·         The director who is also an employee has to agree to sell the business.

·         The director, an employee of your company, has no real or practical choice in terminating employment.

·         The termination of your director's employment is clearly a dismissal for the purposes of subsection 83-175(1) of the ITAA 1997.

·         Therefore, it is considered that the condition under subsection 83-175(1) is satisfied.

Third component - position redundant

The concept of redundancy broadly refers to situations where something is superfluous and therefore unnecessary. When a position is redundant, it means that it is superfluous to the employer's needs and the employer does not want the position to be occupied by anyone.

Your case:-

·         The Company has to be sold.

·         There is no suitable job for the director to work in other associated entities.

The position is made redundant, and the director as an employee is no longer required to work for the organisation. Therefore the third component is satisfied.

Fourth component - Genuine redundancy

The Commissioner considers that whether a redundancy payment is genuine is to be determined on an objective basis. It is not sufficient that an employer and employee have an understanding that a payment is a redundancy payment or that the employer calls the payment a redundancy payment.

The need for the employee's position to be genuinely redundant establishes that contrived cases of redundancy will not meet the conditions in section 83-175 of the ITAA 1997.

In your case, there is no evidence to suggest that the redundancy was contrived. You have provided evidence to show that the business has to be sold.

Conclusion

As all four components are met, subsection 83-175(1) of ITAA 1997 is satisfied. However, further conditions have to be considered before we can conclude the payment is a payment of a genuine redundancy.

Further conditions for a genuine redundancy payment

Before a payment that meets the basic redundancy requirement in subsection 83-175(1) of the ITAA 1997 qualifies as a genuine redundancy payment, all other conditions in section 83-175 must be met. These conditions are:

·         The time of dismissal of an employee receiving a genuine redundancy payment must be before the earlier of:

·         turning 65 years of age or

·         any earlier age of compulsory retirement for the particular position in question.

·         The payment must be made before the end of a fixed period of employment.

·         The payment must not exceed an arm's length amount in the event that the employer and employee are not dealing at arm's length. The need to satisfy the arm's length amount condition in paragraph 83-175(2)(b) of the ITAA 1997 arises only where it is established, as a matter of fact, that the employee's dismissal from employment by the employer was other than at arm's length.

·         There must be no stipulated arrangement to employ the person after the termination; and

·         The payment must not be in lieu of superannuation benefits.

In your case:

·         at the time of the employee's dismissal in the current financial year, the individual meets the age conditions;

·         there was no fixed period of employment;

·         it is accepted that the dealings between the individual and your Company are at arm's length; the payment is calculated as per the Fair Work website.

·         there was no stipulated arrangement to employ the employee after the termination; and

·         the payment was not in lieu of superannuation benefits.

Consequently, it is considered that the termination of your employee's employment with your Company is as a result of genuine redundancy.

Tax-free treatment of a GRP

Subsection 83-170(2) of the ITAA 1997 provides that so much of the GRP that does not exceed the amount worked out using the formula in subsection 83-170(3) of the ITAA 1997 is not assessable income and is not exempt income.

Any amount in excess of the tax-free amount is taxed as an employment termination payment.

The formula for working out the tax-free amount is:

Base amount + (Service amount × Years of service)

For the purposes of subsection 83-170(3) of the ITAA 1997, 'years of service' means the number of whole period, or sum of periods, to which the payment relates. To work out the tax-fee amount for 2019-20 financial year, you can refer to the figures from our website www.ato.gov.au.