Edited version of private advice

Authorisation Number: 1051605445804

Date of advice: 14 November 2019

Ruling

Subject: Ex gratia payment from former employer - is it an ETP?

Question 1

Is the ex gratia payment received treated as an employment termination payment in accordance with sections 82-130 and 82-135 of the Income Tax Assessment Act 1997 (ITAA1997

Answer

Yes

Question

Is the capital gain you made from the settlement sum disregarded in accordance with paragraph 118-37(1)(a) of the ITAA1997?

Answer

No

This ruling applies for the following period:

Year ending 30 June 2020

The scheme commences on:

1 July 2019

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.

You were notified by your employer that your employment had been terminated due to a 'Show Cause' Notice being issued, subsequently terminating your employment.

You commenced proceedings alleging breaches of the Fair Work Act and a breach of contract in the Court (the claim).

The matter was settled and both parties signed a Deed of Settlement (the Settlement). The Settlement deed stated:

Without any admission of liability, the Employer and Employee have reached agreement to finalise all matters arising directly or indirectly out of, or related to the Employment, the Termination, and the Application on foot, as set out in this Deed on a full and final basis.

Under the agreement the employer was to pay within 21 days:

·        an ex gratia payment

·        TOIL, accrued annual leave and entitlements

'Less the applicable tax taxed as an Eligible Termination Payment/Redundancy package'.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 6

Income Tax Assessment Act 1997 subsection 6-5(2)

Income Tax Assessment Act 1997 section 6-10

Income Tax Assessment Act 1997 section 82-130

Income Tax Assessment Act 1997 section 82

Income Tax Assessment Act 1997 section 102-5

Income Tax Assessment Act 1997 section 104-25

Income Tax Assessment Act 1997 subsection 104-25(1)

Income Tax Assessment Act 1997 paragraph 108-5(1)(b)

Income Tax Assessment Act 1997 section 118-37

Income Tax Assessment Act 1997 paragraph 118-37(1)(a)

Income Tax Assessment Act 1997 subparagraph 118-37(1)(a)(ii)

Reasons for decision

Summary

Employment termination payment

Subsection 82-130(1) of theITAA 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.

Failure to satisfy any of the three conditions will result in the payment not being considered an employment termination payment.

To determine if the ex-gratia payment constitutes an employment termination payment, the following examination has been made to determine whether all the relevant conditions in section 82-130 of the ITAA 1997 have been satisfied.

In consequence of termination of employment

The phrase 'in consequence of' is not defined in the ITAA 1997. 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 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 paragraphs 5 and 6 of TR 2003/13 the Commissioner states:

5.... a payment is received by a taxpayer in consequence of the termination of the taxpayer's employment 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 received by the taxpayer.

6. The phrase requires 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 received in consequence of the termination of employment will be determined by the relevant facts and circumstances of each case.

Payments made to a taxpayer as a result of settlement of a claim arising out of the termination of the taxpayer's employment are specifically addressed in paragraph 31 of TR 2003/13 which states:

31....when a payment is made to settle a claim brought by a taxpayer for wrongful dismissal or claims of a similar nature that arise as a result of an employer terminating the employment of the taxpayer, the payment will have a sufficient causal connection with the termination of the taxpayer's employment. The payment will be taken to have been made in consequence of the termination of employment because it would not have been made but for the termination.

In this instance, the Settlement Sum was paid to you to settle the claim brought by you as a result of the termination of your employment. As such, there is a causal connection between the termination of employment and the payment. That is, but for the termination of your employment, the Settlement Sum would not have been paid to you.

Consequently, the payment of the Settlement Sum is 'in consequence of' the termination of your employment with the Employer.

Payment is received no later than 12 months after termination

Your employment was terminated and the Settlement Sum was paid within 21 days of the date of Deed of Settlement. This is less than 12 months after the termination of your employment.

Exclusions under section 82-135 of the ITAA 1997

Certain payments made on termination of employment are excluded from being an employment termination payment under section 82-135 of the ITAA 1997. These payments include:

·        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

·        reasonable capital payments for personal injury.

The payment was to settle all claims you may have had against the Employer and terminate employment, rather than to compensate for injuries. The ex gratia payment was also not for unused annual leave.

As section 82-135 of the ITAA 1997 does not apply, the requirement in paragraph 82-130(1)(c) is satisfied.

Consequently, the ex gratia payment is considered to be an employment termination payment as the payment satisfies all the requirements in section 82-130 of the ITAA 1997, and is not specifically excluded under section 82-135. It should be included in your assessable income for the relevant income year.

As the payment was an ETP you did not make a capital gain, you are not eligible for any capital gains tax exemptions.

Tax treatment of an employment termination payment

If you were under your preservation age when the payment was made, and the payment is under the employment termination payment cap for the relevant income year, you are entitled to a tax offset that ensures that the rate of income tax on the ex gratia amount does not exceed 30% (subsection 82-10(3) of the ITAA 1997).

Conclusion

In this case, you were in receipt of the ex-gratia payment. You agreed to the terms and conditions set out in the Agreement to settle all claims which you have or may have had to finalise all matters arising directly or indirectly out of, ore related to the Employment, the Termination, and the Application on foot, as set out in the Deed.

The Settlement Sum paid by the Employer to you is considered to be an ETP for the purposes of section 82-130 of the ITAA 1997. The ex gratia payment is considered to be an employment termination payment as the payment of satisfies all the requirements in section 82-130, and is not specifically excluded under section 82-135. Capital gains tax exemptions are not applicable to this payment as it was income rather than capital.