Edited version of private advice

Authorisation Number: 1052224663438

Date of advice: 23 February 2024

Ruling

Subject: Assessable income - employment termination payment

Question 1

Are the compensation payments made under settlement considered employment termination payments (ETPs) under section 82-130 of the ITAA 1997 and included in each Claimant's assessable income under subsection 82-10(2)?

Answer

Yes.

Question 2

Are the compensations payments derived by the Claimants when they are received by them for the purposes of paragraph 6-10(3) of the ITAA 1997?

Answer

Yes, if this is the earliest time they are received, or otherwise applied or dealt with on the Claimants' behalf or as they direct.

Question 3

Is the Scheme Administrator required to withhold tax and superannuation when distributing the compensation payments to those Claimants who are residents of Papua New Guinea at the time of payment?

Answer

The Scheme Administrator is required to withhold amounts for tax, but not superannuation, from the ETPs.

Question 4

Arethe amounts on which each claimant is assessable under section 82-10, and on which withholding is required, based on the Net Entitlement amount?

Answer

Yes

This ruling applies for the following period:

Year ended 30 June 20XX

The scheme commenced on:

1 July 2020

Relevant facts and circumstances

1.    A settlement (the Settlement) was reached between the parties to a legal proceeding (the Proceedings).

2.    The Proceedings relate to employment contracts offered by an Australian company to foreign resident individuals. It was alleged that these contracts were inappropriately terminated.

3.    The Proceedings sought compensation due to the termination.

4.    Pursuant to a settlement deed (the Deed) a Settlement Scheme was established and a scheme administrator (the Administrator) was appointed.

5.    The Deed provides:

5. For a settlement sum of $XXX that includes all costs and interest in connection with the Proceedings and administration of the settlement, including the Settlement Scheme.
6. The Settlement Sum will be paid to the Settlement Scheme.

6.    The Settlement Scheme provides that the Settlement Sum will be distributed toward a number of costs (Costs).

7.    The Settlement Scheme provides that the costs (Costs) related to the Proceedings will be paid for out of the Settlement Sum before the Claimant's compensation amounts are calculated. Thus, each claimant will have an amount (Net Entitlement) set aside for them under the Settlement Scheme by the Scheme Administrator net of Costs.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 82-10

Income Tax Assessment Act 1997 section 82-130

Income Tax Assessment Act 1997 section 82-135

Income Tax Assessment Act 1997 section 82-140

Income Tax Assessment Act 1997 section 82-145

Income Tax Assessment Act 1997 section 6-10

Taxation Administration Act 1953 paragraph 12-85(b) of Schedule 1

Taxation Administration Act 1953 section 15-25 of Schedule 1

Taxation Administration Act 1953 section 15-30 of Schedule 1

Does IVA apply to this private ruling?

N/A

Reasons for decision

Question 1

Summary

Each payment to a claimant under the Settlement Scheme (compensation payment) is considered an employment termination payment (ETP) under section 82-130 and is included in the claimant's assessable income under section 82-10.

Detailed reasoning

Section 82-10 relevantly provides that the taxable component of a life benefit termination payment is assessable income.

Employment termination payment

Section 82-130 states:

(1)    A payment is an employment termination payment if:

(a)  it is received by you:

(i)    in consequence of the termination of your 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.

Types of employment termination payment

(2)    A life benefit termination payment is an employment termination payment to which subparagraph (1)(a)(i) applies. ...

(4)    Paragraph (1)(b) does not apply to you if:

(a)  you are covered by a determination under subsection (5) ...

(5)    The Commissioner may determine, in writing, that paragraph (1)(b) does not apply to you if the Commissioner considers the time between the employment termination and the payment to be reasonable, having regard to the following:

(a)  the circumstances of the employment termination, including any dispute in relation to the termination;

(b)  the circumstances of the payment;

(c)  the circumstances of the person making the payment;

(d)  any other relevant circumstances.

The first consideration is whether the payment is made 'in consequence' of the termination of employment.

Paid 'in consequence of' the termination of employment

The phrase 'in consequence of' is not defined in the ITAA 1997. However, the courts have interpreted the phrase in a number of cases. The Commissioner's view on the meaning and application of the 'in consequence of' test are set out in Taxation Ruling 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).

Paragraphs 5 to 7 of TR 2003/13 state that:

5....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.

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 made in consequence of the termination of employment will be determined by the relevant facts and circumstances of each case.

7. The greater the length of time between the termination of employment and the payment, the more likely that the causal connection between the termination and the payment will be too remote for a conclusion that a payment was received in consequence of the termination of employment. However, length of time will not be determinative when there is a presently existing right to payment of the amount at the time of termination...

At paragraph 32 of TR 2003/13 the Commissioner considers payments from a former employer to settle litigation:

32. The Federal Court in Dibb v. FC of T adopted the approach of Goldberg J in Le Grand. At issue was whether a payment received by the taxpayer under a deed of release, following the settlement of Federal Court proceedings against his former employer, was an ETP. In deciding the payment was an ETP, Heery J held that the length of time between the termination of employment, the commencement of court proceedings and payment following settlement did not sever the causal connection between the termination and the payment. It was sufficient that the subject matter of the litigation was the termination. Heery J found at 296 that:

'The various causes of action whether breach of contract, conspiracy, breach of fiduciary duty or contravention of the Trade Practices Act were, as Goldberg J would say (Le Grand at [36]), 'interwoven and intertwined' with the termination. The payment was a consequence of the settlement, which was a consequence of the Federal Court proceeding, which in turn was a consequence of the termination.'

Taxable component of ETP

Section 82-145 states:

The taxable component of an employment termination payment is the amount of the payment less the tax free component of the payment (see section 82-140).

Section 82-140 states:

The tax free component of an employment termination payment is so much of the payment as consists of the following:

(a) the invalidity segment of the payment;

(b) the pre-July 83 segment of the payment.

Application of the law

Paid 'in consequence' of the termination of employment

The Claimants were hired under contracts. These contracts were terminated shortly after they began employment under the contracts. Consequently, the Claimants sought compensation via litigation for amounts owed under the contracts. This litigation lead to a settlement.

Under the Settlement Deed a single amount was paid in full and final settlement of the Proceedings. Although this amount may have been calculated by reference to various clauses of the employment contract, the payment would not have been made unless there had been a termination of employment. That is, there was a sequence of events leading to the termination of the Claimants' employment which had a relationship and connection leading to the settlement payment. These events align with paragraph 5 of TR 2003/13 where a payment is considered to have been 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.

Paragraph 32 of TR 2003/13 relates to payment from a former employer to settle litigation. The common law cited refers to various causes of action being 'interwoven and intertwined' with the termination. In this case a link and an interdependency exist between the claimants' employment termination and settlement payment.

The Commissioner considers the settlement payment/s are a consequence of the termination of the Claimants' employment and, thus, payments from the settled sums to each claimant are considered employment termination payments under paragraph 82-130(1)(a).

Payment to be received no later than 12 months after termination

Paragraph 82-130(1)(b) requires payment within 12 months of termination for the payment to be considered an ETP under 82-130. However, paragraph 82-130(5) provides:

The Commissioner may determine, in writing, that paragraph (1)(b) does not apply to you if the Commissioner considers the time between the employment termination and the payment to be reasonable, having regard to the following:

(a) the circumstances of the employment termination, including any dispute in relation to the termination;

(b) the circumstances of the payment;

(c) the circumstances of the person making the payment;

(d) any other relevant circumstances.

Given the circumstances of the delay, including the dispute and clarity being sought from the Commissioner, the Commissioner has determined that paragraph (1)(b) will not apply in this case.

Exclusions under section 82-135 of the ITAA 1997

Section 82-135 provides that certain payments are not ETPs. The payments under the settlement are a consequence of the termination of employment and are considered ETPs, in line with the Commissioner's views in TR 2003/13. The Commissioner does not consider that any of the exclusions listed in section 82-135 apply.

The payment is not excluded from being an ETP under section 82-135.

Life benefit termination payment

Given that the payments to the Claimants meet the requirements of subparagraph 82-130(1)(a)(i), they are life benefit termination payments under subsection 82-130(2) of the ITAA 1997.

Taxable component of ETP

None of the payment is considered to be part of the tax free component. Thus, the entirety of the ETPs made to the Claimants will form the taxable component of each of their ETPs.

Inclusion in assessable income

The taxable component of each life benefit termination payment (in this case comprising the entirety of each ETP) is included in each Claimant's assessable income under subsection 82-10(2).

Question 2

Summary

The compensation payments are taken to be derived by each of the claimants in the income year in which the payments are received, or otherwise applied or dealt with on their behalf or as they direct, pursuant to subsection 6-10(3).

Detailed reasoning

The life benefit termination payments (LBTPs) form statutory income in the Claimants' assessable income, pursuant to subsection 6-10(2).

Subsection 6-10(5) relevantly states:

(5) If you are a foreign resident, your assessable income includes:

(a) your statutory income from all Australian sources; and

(b) other statutory income that a provision includes in your assessable income on some basis other than having an Australian source.

As foreign residents, each Claimant's assessable income properly includes their ETP as statutory income from an Australian source pursuant to paragraph 6-10(5)(a).

Paragraph 6-10(3) states:

If an amount would be statutory income apart from the fact that you have not received it, it becomes statutory income as soon as it is applied or dealt with in any way on your behalf or as you direct.

Thus, the compensation payments to the Claimants will be assessable in the income year in which the payments are first received, or otherwise applied or dealt with on their behalf or as they direct.

Question 3

Summary

The Scheme Administrator has an obligation to withhold and pay an amount to the Commissioner from the ETPs paid to Claimants pursuant to the Taxation Administration Act 1953 (TAA). As the superannuation guarantee charge is not payable on life benefit termination payments, the Scheme Administrator does not need to withhold any amount for this from the ETPs it makes to Claimants.

Detailed reasoning

Income tax withholding obligations

The Commissioner has provided a schedule, Schedule 11 - Tax table for employment termination payments (the Schedule), requiring the withholding of amounts from ETPs. This withholding schedule is made by the Commissioner in accordance with sections 15-25 and 15-30 of Schedule 1 to the Taxation Administration Act 1953 (TAA). It applies to withholding payments covered by paragraph 12-85(b) of Schedule 1 to the TAA, which concerns ETPs.

Relevantly, Table 1 in the Schedule provides the following:

Table 1: This Schedule provides the following:

The Scheme Administrator must withhold amounts from the ETPs according to the above table.

Superannuation withholding obligations

Superannuation contributions by employers are based on the 'salary and wages' of employees (see section 19 of the Superannuation Guarantee (Administration) Act 1992).

Superannuation Guarantee Ruling SGR 2009/2 Superannuation guarantee: meaning of the terms 'ordinary time earnings' and 'salary or wages' (SG 2009/2) relevantly states:

Workers' compensation payments - employee required to work

39. Workers' compensation payments made by an employer or on behalf of an employer (for example, by an insurance company) are part of an employee's OTE only if they are 'salary or wages' paid in respect of ordinary hours of work. Any such payments are part of 'salary or wages' only if the employee actually performs work or is required to attend work: see paragraphs 68 and 76 of this Ruling.

...

68. Any workers' compensation payments received by an injured employee for the hours the employee performs work or attends work as required form part of 'salary or wages'. In contrast, if the employment has been terminated, or if the employee is paid workers' compensation for hours not worked (or not attending work as required); the payment would not be 'salary or wages' as in these situations it cannot be said that the payment is a reward for the services of the employee to the employer.

...

76. Workers' compensation payments made by or on behalf of an employer to an employee who is not required to attend work due to incapacity, or whose employment has been terminated, are not salary or wages.

(emphasis added)

As the Claimants did not perform the work and are not required to, there are no salary or wages referable to the ETPs, as explained above. Thus, there is no requirement for the Scheme Administrator to withhold an amount to meet superannuation obligations.

Question 4

Summary

The amount on which each claimant is assessable under section 82-10, and on which withholding is required, is based on the Net Entitlement amount.

Detailed reasoning

The Settlement Sum is inclusive of all costs and interest in connection with the Proceedings and administration of the settlement, including the Settlement Scheme. The Settlement Scheme provides how the Settlement Sum is to be distributed. The Settlement Scheme provides for costs to effectively be paid from the Settlement Sum before any amounts are set aside for the Claimants. The Claimants have no right to amounts set aside to pay these costs. They only have a right to receive their Net Entitlement.

Thus, pursuant to section 82-10, each Claimant's assessable income will include their Net Entitlement.

Thus, the relevant amount for the purposes of calculating the amount of withholding is based on the Net Entitlement of each Claimant.