Edited version of private advice

Authorisation Number: 1052189799626

Date of advice: 8 November 2023

Ruling

Subject: Genuine redundancy payment

Question

Is any part of the 'Special benefit payment' that was paid to the taxpayer on the termination of their employment, a tax-free part of a genuine redundancy payment under section 83-175 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes, the whole of the payment represents a tax-free part of a genuine redundancy under section 83-175 of the ITAA 1997.

This ruling applies for the following period:

year ending 30 June 2024

The scheme commenced on:

1 July 2023

Relevant facts and circumstances

1.      The taxpayer's date of birth is XX/XX/XXXX, being XX years of age at the time of the termination.

2.      The taxpayer served with the employer for the period XX/XX/XXXX to XX/XX/XXXX.

3.      Prior to the termination, the taxpayer was employed full-time as Permanent Forces.

4.      On XX/XX/XXXX, the taxpayer was issued with a notice of a Command-initiated Transfer to the Reserves (CITR) in accordance with Section 16 of Defence Regulation 2016.

5.      On XX/XX/XXXX the taxpayer was issued with a Decision on CITR.

6.      On XX/XX/XXXX the taxpayer acknowledged the Decision on CITR. As part of this acknowledgement the taxpayer also acknowledged that:

•         Their last day of service in the Permanent Forces will be XX/XX/XXXX and they will be compulsorily transferred to Service Category 3 on XX/XX/XXXX.

•         They qualify for a Special benefit payment, provided they continue to meet all eligibility criteria provided in Chapter 2, Part 3, Division 3 of the ADF Pay and Conditions Manual.

•         If they become subject to any item outlined in section 2.3.22.3 of the above referenced Division prior to their transfer date, they will no longer be eligible for the payment.

•         If within 12 months of the date of their transfer, they recommence service in Service Categories 6 or 7 or undertake a period of continuous full time service in Service Categories 3 or 5, they will be required to repay the Special benefit amount.

7.      On XX/XX/XXXX the taxpayer received an employment termination payment, type O, in the amount of $XXX,XXX, representing 48 weeks of the taxpayer's salary.

8.      ADF Total Workforce System | Pay and Conditions (defence.gov.au) provides the following comments on Service Category 3 (SERCAT 3). It states that:

SERCAT 3 comprises two discrete contingent workforce components:

•         Members who have indicated a willingness to render service on an as required basis but are not yet doing so; and

•         Members who are rendering service to meet a specific task withing a financial year.

SERCAT 3 members not rendering service form capability pools from which the Service can draw at relatively short notice to address emergent capability needs. Depending upon the nature and duration of the requirement a member may render service in SERCAT 3 or another SERCAT (e.g. SERCAT 5).

9.      On XX/XX/XXXX a responsible officer confirmed via email that 'there is no obligation for Defence to provide a SERCAT 3 member with employment.

10.    On XX/XX/XXXX a responsible officer confirmed that the taxpayer's position no longer exists and that the position was not transferred to another State or Territory to be performed by another officer.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 82-130

Income Tax Assessment Act 1997 section 83-135

Income Tax Assessment Act 1997 section 83-170

Income Tax Assessment Act 1997 section 83-175

Reasons for decision

Summary

The whole lump sum payment represents a tax-free part of a genuine redundancy under section 83-175 of the ITAA 1997.

Detailed reasoning

Employment termination payment

1.      Division 82 of the ITAA 1997 contains the substantive rules governing the taxation of employment termination payments (ETPs).

2.      The term 'employment termination payment' as defined in section 82-130 of the ITAA 1997, includes any payment made in respect of a taxpayer 'in consequence of the termination of their employment', other than certain specified payments.

3.      A payment is an ETP if it satisfies all the requirements in section 82-130 of the ITAA 1997 and is not specifically excluded under section 82-135 of the ITAA 1997.

4.      Subsection 82-130(1) of the ITAA 1997 states:

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 the termination (but see subsection (4)); and

(c) it is not a payment mentioned in section 82-135.

5.      Taxation Ruling TR 2003/13 Income tax: employment termination payments (ETP): payments made in consequence of the termination of any employment: meaning of the phrase 'in consequence of' (TR 2003/13) sets out the Commissioner's views on when a payment is made 'in consequence of' termination of employment.

6.      Paragraphs 5 and 6 of TR 2003/13 state:

5....the Commissioner considers that 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.

7.      Common examples of ETPs include golden handshakes, contractual termination payments and payments for wrongful dismissal.

8.      In this case, the taxpayer was issued with a notice of CITR in accordance with Section 16 of Defence Regulation 2016 and compulsorily transferred from his full time position held with Permanent Forces to the Reserve, SERCAT 3, as of XX/XX/XXXX.

9.      On XX/XX/XXXX the taxpayer received an ETP, type O, in the amount of $XX,XXX, representing 48 weeks of the taxpayer's salary.

Genuine redundancy payment

10.   Section 82-135 of the ITAA 1997 provides that certain payments are not ETPs.

11.    Paragraph 82-135(c) of the ITAA 1997 excludes from an ETP the part of a genuine redundancy payment worked out under section 83-170 of the ITAA 1997. This payment is tax-free.

12.   The matter of what is a genuine redundancy payment is defined by section 83-175 of the ITAA 1997. The section identifies:

§  the conditions that must be satisfied for at least part of a payment to be treated as a genuine redundancy payment;

§  how to work out what amount of the payment is a genuine redundancy payment; and

§  what payments are excluded from being a genuine redundancy payment.

13.   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 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 the employee reached pension age;

(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.'

14.    As can be seen above, subsection 83-175(1) of the ITAA 1997 contains two elements to be satisfied for a payment to be considered a genuine redundancy payment:

§  The payment is received by an employee who is dismissed because their position is genuinely redundant; and

§  The payment exceeds the amount that could reasonably be expected to be received by the employee if their employment was terminated voluntarily at that time.

15.    For a genuine redundancy payment to exist, both elements need to be satisfied.

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

17.    Under subsection 83-175(1), a genuine redundancy payment is one 'received by an employee who is dismissed from employment because the employee's position is genuinely redundant.'

18.    Paragraph 11 of TR 2009/2 states:

There are four necessary components within this requirement:

•              The payment must be received in consequence of an employee's termination.

•              That termination must involve an employee being dismissed from employment.

•              That dismissal must be caused by the redundancy of the employee's position.

•              The redundancy payment must be made genuinely because of a redundancy.

Note: Some other payments, such as unused annual leave and unused long service leave, may also be made in consequence of termination. Any such payments that receive a more specific tax treatment are excluded from being genuine redundancy payments by subsection 83-175 (4).

Unused annual leave would ordinarily be included in assessable income under section 83-10 of the ITAA 1997 and subject to marginal rates of tax.

Similarly, unused long service leave would ordinarily be included in assessable income under section 83-80 of the ITAA 1997. If this payment is made in connection with a genuine redundancy payment, section 83-85 allows a tax offset to ensure that the rate of tax on this amount does not exceed 30%.

Component 1: payment 'in consequence of' termination

19.    The phrase 'in consequence of' is not defined in the ITAA 1997.

20.    TR 2003/13 makes clear that the Commissioner considers that 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.

21.    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.

22.    A severance payment that is made in respect of a taxpayer by a former employer after the termination of the taxpayer's employment, such as a golden handshake, is a payment that follows as an effect or result of the termination. Accordingly, the payment is made in consequence of the termination of employment. In such circumstances there is a causal connection between the payment and the termination of employment in that the payment would not have been made to the taxpayer but for the termination of the employment.

23.    In this case, the taxpayer was compulsorily transferred from the Permanent to the Reserve. Upon the completion of this transfer, they received a 'Special benefit payment' of $XXX,XXX.

24.    On XX/XX/XXXX a representative of the employer confirmed via email that the taxpayer's position with Permanent Forces no longer exists and that the position was not transferred to another State or Territory to be performed by another officer.

25.    The transfer to the Reserves does not provide the taxpayer with further employment.

26.    As can be seen from the above, the lump sum payment made to the taxpayer was paid in consequence of the termination of his/her employment:

§  There is a causal connection between the termination and the payment

§  But for the termination of his employment, he/she would not have received the payment

§  The termination and the payment are intertwined

27.    Component 1 is satisfied - the payment received by the taxpayer was in consequence of his/her termination.

Component 2: 'dismissal' from employment

28.    The Commissioner's view is that a genuine redundancy can only arise where there is no suitable job available for the employee with the employer, meaning that he or she must therefore be dismissed.

29.    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.

30.    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.

31.    Determining whether an employee has consented to their termination requires an assessment of the facts and circumstances of each case. Consent may be either expressly stated by the employee or implied by their behaviour or conduct.

32.    Where an employee is given notice from their employer that they will be terminated at a specified time in the future due to genuine redundancy, that employee will be dismissed because of redundancy for the purposes of section 83-175 of the ITAA 1997.

33.    It is clear from the facts that the taxpayer was dismissed as part of the CITR process and compulsorily transferred from their position, held with Permanent Forces, to reserves SERCAT 3 as of XX/XX/XXXX.

34.    As mentioned previously, a representative of the employer confirmed via email that the taxpayer's position no longer exists and that the position was not transferred to another State or Territory to be performed by another officer.

35.    Information provided by the taxpayer supports the notion that transfer to the Reserve, SERCAT 3 doesn't provide the taxpayer with employment.

36.    Accordingly, component 2 is satisfied - the taxpayer was dismissed from employment.

Component 3: dismissal caused by 'redundancy'

37.    Section 83-175 further requires that the dismissal be caused by redundancy of the employee's position, and not for some other reason.

38.    The reason for a dismissal is to be established in light of the facts and circumstances of each case. The redundancy of the relevant position must be the prevailing or most influential reason for the dismissal if there is more than one contributing cause.

39.    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.

40.    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.

41.    In some circumstances, an employer may reallocate the duties and functions attached to a particular position to another position within the employer's organisational structure. In such cases, the former position is redundant.

42.    In this case, the taxpayer's position no longer exists with the position being disestablished and used as an offset for a temporary role. A representative of the Employer confirmed that the position was not transferred to another State or Territory to be performed by another officer.

43.    It is clear from the above that the taxpayer's former position does not exist under the new structure.

44.    Component 3 is satisfied - the taxpayer's dismissal was caused by redundancy.

Component 4: 'Genuine' redundancy

45.    Contrived cases of redundancy will not meet the conditions in section 83-175 of the IIAA 1997. Whether a redundancy is 'genuine' is determined on an objective basis.

46.    The fact that an employer and employee have an understanding that a payment on termination is caused by redundancy or that the employer treats the payment as a redundancy payment for tax purposes does not of itself establish genuine redundancy.

Further conditions for a genuine redundancy payment

47.    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) require that:

•         the dismissed employee is not older than the specified age limits;

•         the termination is not at the end of a fixed period of employment;

•         the actual amount paid is not greater than the amount that could reasonably be expected had the parties been dealing at arm's length, in the event that the employer and employee are in fact not dealing at arm's length in relation to the dismissal;

•         there is no arrangement entered into between the employer and employee or the employer and another entity to employ the dismissed employee after the termination; and

•         the payment is not in lieu of superannuation benefits.

Age-based limits

48.    Under paragraph 83-175(2)(a) of the ITAA 1997, an employee must be less than the pension age at the time of dismissal for a redundancy payment to qualify as a genuine redundancy payment.

49.    At the time of the taxpayer's CITR (XX/XX/XXX), the taxpayer was aged XX years.

50.    At this time, the pension age (as defined in subsection 23(1) of the Social Security Act 1991) was 67 years.

51.    The taxpayer was less than the pension age at the time of dismissal.

52.    This condition is met.

Not the end of a particular period of employment

53.    Under subparagraph 83-175(2)(a)(ii) of the ITAA 1997, a payment made at the end of a fixed period of employment cannot normally be a genuine redundancy payment.

54.    It would normally be the case that someone employed on a contract for a set period could not be dismissedat the end of that period. The employment would simply terminate because the arrangement stipulated that the employment would cease at that time.

55.    As per TR 2009/2, Senior Member Sweidan in Winsen v Commissioner of Taxation found this to be the case where a person was employed for a succession of fixed periods, at the end of the last of which there was no continuation of employment and no renewal of the contract for a further fixed period.

56.    In this case, the taxpayer's posting commenced on XX/XX/XXXX and should have run for a period of at least 12 months (notionally 3 years) but was disestablished shortly after its commencement, well before its contemplated end date.

57.    Accordingly, this condition is met.

Arm's length amount

58.    This condition only needs to be met if it is established that the employer and employee are not dealing at arm's length in relation to the dismissal.

59.    There is no suggestion that the taxpayer and the employer were not dealing at arm's length in relation to the dismissal.

60.    Therefore, this condition does not apply.

No stipulated arrangement to employ

61.    Under paragraph 83-175(2)(c) of the ITAA 1997, an arrangement to employ an employee after his or her termination prevents a dismissal giving rise to a genuine redundancy payment if that arrangement is entered into between either:

•         the employer and the dismissed employee; or

•         the employer and another entity.

62.    The condition does not contemplate a situation where there is an arrangement to engage the former employee as an independent contractor.

63.    There is no suggestion that, at the time of the taxpayer's termination, there was any form of arrangement between the taxpayer and the employer, as the transfer from the Permanent Forces to the Reserve, SERCAT 3, did not provide the taxpayer with any ongoing, or future employment. In addition, the CITR process and the payment of the Special benefit payment limited the taxpayer's future actions in regard to employment. Had the taxpayer recommenced full time service within 12 months of the date of the transfer in SERCAT 6 or 7 and/or SERCAT 3 or 5, they would be required to repay the Special benefit payment.

64.    Further, on XX/XX/XXXX, a responsible officer of the employer confirmed via email that there is no obligation for Defence to provide a SERCAT 3 member with employment.

65.    This condition is met.

Payments not in lieu of superannuation benefits

66.    Under subsection 83-175(3) of the ITAA 1997, a payment is not a genuine redundancy payment to the extent that it is made in place of superannuation benefits due at the time or in the future.

67.    Superannuation benefits are also specifically excluded from being genuine redundancy payments under subsection 83-175(4) of the ITAA 1997.

68.    There is no evidence in the documentation provided to suggest any part of the payment received was in relation to superannuation benefits.

69.    This condition is met.

Tax-Free and taxable amount of a genuine redundancy

70.    Some or all of a genuine redundancy payment may be non-assessable non-exempt income, and accordingly tax-free, under section 83-170 of the ITAA 1997.

71.    The extent to which the payment is tax-free will depend on the amount of the payment and the total number of whole years of employment to which the payment relates. There is no requirement for the years of service to be continuous when applying the threshold in section 83-170 of the ITAA 1997.

72.    Any amount of a genuine redundancy payment in excess of the tax-free amount worked out under section 83-170 of the ITAA 1997 will be taxable as an employment termination payment. This is so even where the amount is received more than 12 months after the termination.

73.    The applicable formula for working out a genuine redundancy amount is under subsection 82-170(3) of the ITAA 1997. This formula is as follows:

Base amount + (Service amount × Years of Service)

Where:

Base amount means indexed based amount listed in subdivision 960-M of the ITAA 1997.

Service amount means indexed service amount listed in subdivision 960-M of the ITAA 1997.

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

74.    Based on the above formula we have determined that the whole lump sum payment amount of $XXX,XXX, received by this taxpayer upon the termination of their employment constitutes a tax-free part of a genuine redundancy payment under section 83-170 of the ITAA 1997.