Edited version of private advice

Authorisation Number: 1052248682639

Date of advice: 14 May 2024

Ruling

Subject: Foreign eligible termination payment

Question

Are the payments received by the Taxpayer in the 2022, 2023 and 2024 financial years for an employee incentive scheme from a foreign company (the Company), while an Australian resident for taxation purposes, non-assessable non-exempt income under section 83-235 of the Income Tax Assessment Act 1997 (ITAA)?

Answer

No.

This ruling applies for the following periods:

Year ending 30 June 20XX

Year ending 30 June 20XX

Year ending 30 June 20XX

The scheme commenced on:

1 July 2022

Relevant facts and circumstances

1.    The Taxpayer commenced employment with the Company in the foreign country on 1 July 20XX and ceased employment with the Company in January 20XX.

2.    At all times whist employed by the Company, the taxpayer lived in the foreign country, carried out their duties of employment, was a permanent resident of the foreign country and was not an Australian resident taxation purposes.

3.    Taxpayer ceased their Australian tax residency from July 19XX.

4.    Taxpayer recommenced their Australian tax residency status in January 20XX after ceasing employment with the Company. This is also reflected in the taxpayer's individual tax returns upon returning to Australia.

5.    While employed with the Company, the taxpayer was a part of an employee incentive program:

•         Short term incentive plan (STIP) component - payable in cash on a deferred basis and subject to the satisfaction of certain criteria; and

•         Long term Incentive plan (LTIP) financial performance units (FPUs) component - payable in cash on deferred basis and subject to the satisfaction of certain criteria, including future company performance.

6.    Upon ceasing employment with the Company, the Taxpayer fulfilled all their obligations with the Company under the early retirement scheme and therefore met the conditions of the Companies policy.

7.    The letter of undertaking provided to the taxpayer states:

•         8.7: The approval of any early retirement applications made under the policy shall be at the sole and absolute discretion of the Company;

•         8.8: On retirement, all deferred STIP and LTIP bonuses are payable and vest in accordance with the Company's Incentive Plan. Retiring employee is eligible for full STIP3 and LYIP3 (FPU and RSU) based on their last full financial year's performance for the year in review prior to their retirement provided he/she is in employment with the Company at the time of the bonus reward. Employee who retires during the year in review will only be grantedSTIP3 based on the number of months of service completed prior to the bonus award date. The remuneration committee shall determine any LTIP3 RSU grant to retired employee at its sole discretion.

•         In paragraph 3 of the Letter of Undertaking, we confirm that all STIP and LTIP deferred bonuses were subject to applicable income tax deductions required by the revenue authority and were processed in the usual payroll run by the Company.

•         Taxes apply to the STIP3 and LTIP3 FPU deferred bonuses at the rate of XX% or progressive resident tax rates (whichever is the higher amount) at the time of payment of the deferred bonuses on the basis that they were derived in connection with the Taxpayer's foreign employment.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 6-5

Income Tax Assessment Act 1997 section 82-130

Income Tax Assessment Act 1997 section 83-235

Reasons for decision

Subsection 6-5(2) of the income Tax Assessment Act 1997 (ITAA 1997) provides that the assessable income of a resident taxpayer includes ordinary income derived directly or indirectly from all sources during the income year.

An entity derives an amount of ordinary income as soon as it is applied or dealt with in any way on the entity's behalf or as directed by it (subsection 6-5(4) of the ITAA 1997)

The Commissioner has considered section 83-235 of the ITAA 1997 and whether this section applies to the final retirement performance bonus payments you received.

In order for payments to be exempt from tax in Australia under this section, all of the following must apply:

a)    The payments were received by you in consequence of the termination of your employment in a foreign country

b)    The payments are not a superannuation benefit

c)    The payments are not a pension or annuity, and

d)    The payments relate to a period of time when you were not an Australian resident.

The phrase 'in consequence of the termination of your employment' is used in section 83-235 of the ITAA 1997 and also in section 82-130 of the ITAA 1997 which specifies what an employment termination is.

As per taxation 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', the relevant payment must be made in consequence of the employee's termination.

Paragraphs 5 and 6 of TR 2003/13 state:

5. The phrase 'in consequence of' is not defined in the ITAA 1997. However, those words appeared in former provisions of the ITAA 1997 and have been interpreted by the courts in that context. The phrase 'in consequence of' in the former provisions conveys the same idea as in Division 82 of the ITAA 1997, and accordingly the consideration of the phrase by the courts in context of the former provisions is also applicable to the interpretation of the phrase in Division 82 of the ITAA 1997. Whilst there are divergent views as to the correct interpretation of the phrase, 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 termination and the payment, although the termination need not be the dominant cause of the payment. The question of whether a payment received in consequence of the termination of employment will be determined by the relevant facts and circumstances of each case.

Further, paragraph 10 of TR 2003/13 states that common examples of ETPs include golden handshakes, contractual termination payments and payments for wrongful dismissal.

However, ETPs do not include other termination payments such as unused annual or long service leave payments.

In your case, you were employed in a foreign country, your employment in that country ended, and you received payments that related to a period of time when you were not an Australian resident.

However, the payments of the employee incentive bonuses you received after becoming a resident of Australia for taxation purposes do not meet the criteria of being foreign termination payments as you would have received the payments regardless of whether there was or was not a termination of your employment. There is no evidence that any of these payments were additional contractual payments made under your employment contract that specifically related to the termination of your employment.

Taxation Ruling TR 98/1 Income tax: determination of income; receipts versus earnings (TR 98/1) sets out the Commissioners view on when income is derived and explains that income can be derived either on the basis of the 'receipts' method or the 'earnings' method.

Under the earnings (accruals) method, income is derived when it is received, wither actually or constructively, and is taken to be derived by a person although it may not actually be paid over, but us dealt with on his/her behalf or as he/she directs.

Paragraph 18 of TR 98/1 states that the receipts method is likely to be appropriate to determine:

•         Income derived by an employee;

•         Non-business income derived from the provision of knowledge, or the exercise of skill processed by the taxpayer; and

•         Business income where the income is derived from the provision of knowledge, or the exercise of skill processed by the taxpayer in the provision of services

Consequently, income from employment is normally assessable on a receipt's basis. Salary, wages, or other employment renumeration are assessable on receipt even though they relate to a past or future income period (paragraph 42 of TR 98/1)

The payments were received by you once you had become a resident for taxation purposes.

In summary, the payments do not satisfy conditions a) and d) of section 82.-235 of the ITAA 1997.

The payments are therefore assessable income in Australia and must be included in your Australian tax return.