Private ruling: Employment termination payment
Date of advice: 3 September 2018
Published: October 2018
Ruling period: Year ending 30 June 2018
Date scheme commenced: 1 July 2017

Ruling: Q1: Is the payment received for legal costs considered to be an employment termination payment (ETP) in accordance with section 82-130 of the Income Tax Assessment Act 1997 (ITAA 1997) ? | A1: No | Q2: Is the payment received for loss associated with a medically diagnosed illness considered to be an ETP in accordance with section 82-130 of the ITAA 1997? | A2: Yes

Relevant facts and circumstances: 1. You client was employed by the employer. 2. Your client was dismissed from their employment. 3. Your client filed an application in the Relevant Circuit Court under Fair Work Act 2009 . 4. The parties agreed to settle all matters arising out of the claim. 5. You applied for a private ruling. Attached to this application were the: ● Deed of Settlement and Release, ● PAYG payment summary for the ETP and ● Tax invoice for legal costs. 6. As per the deed of settlement, your client is entitled to a settlement sum including: ● Legal costs incurred. ● Compensation for loss associated with medically diagnosed illness. ● General damages 7. You confirmed that the application was for the amounts paid for legal expenses and for a medically diagnosed illness. 8. The Medical consultation notes stated that the doctor had assessed your client as suffering from an related disorder. 9. You confirmed that your client had gained employment with a new employer. You also confirmed that the amount received for loss associated with medically diagnosed illness was not calculated by reference to any external factors. 10. You received confirmation that the Commissioner had exercised his discretion and applied the Employment Termination Payments (12 month rule) Legislative Instrument 2007 to the payment received by your client. Assumption None

Relevant legislative provisions: Income Tax Assessment Act 1997 Section 82-130 | Income Tax Assessment Act 1997 Subsection 82-130(1) | Income Tax Assessment Act 1997 Section 82-135 | Income Tax Assessment Act 1997 Paragraph 82-135(i) | Income Tax Assessment Act 1997 Subparagraph 82-130(1)(a)(i) | Income Tax Assessment Act 1997 Paragraph 82-130(1)(b) | Income Tax Assessment Act 1997 Paragraph 82-130(1)(c) | Income Tax Assessment Act 1997 Subsection 82-130(4) | Income Tax Assessment Act 1997 Subsection 82-130(7) Summary | 11. The payment for loss associated with medically diagnosed illness is not a personal injury payment. Therefore, the payment is an ETP. | 12. The payment for the termination of employment is not an ETP as this amount is specifically for the reimbursement of legal costs. | Detailed reasoning | Employment termination payments | 13. ETPs are defined in subsection 82-130(1) of the ITAA 1997, which states that a payment is an ETP 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. | 14. To determine if a payment is an ETP, all the conditions in subsection 82-130(1) of the ITAA 1997 must be satisfied. Failure to satisfy any of the conditions under subsection 82-130(1) will result in the payment not being considered an ETP. | ‘In consequence of the termination of your employment’ | 15. 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) explains what is meant by the phrase ‘in consequence or the termination of any employment’. | 16. Paragraph 6 of TR 2003/13 states that the phrase ‘in consequence of’ requires a connection between the termination and the payment, although the termination may not need to be the dominant cause. | 17. Based on the information you have provided, the payment was received from the employer as part of a settlement deed signed with your employer. | 18. Paragraphs 31 and 32 of TR 2003/13 refer to how payments arising from litigation settlements can be made in consequence of termination of employment. This occurs if the litigation proceedings arose because of the employer terminating an individual’s employment and related to an issue regarding their employment. | 19. Therefore, it is considered that the payment your client received under the settlement deed was paid ‘in consequence of the termination of their employment’. | Payment is received no later than 12 months after termination | 20. In addition to meeting the other conditions for a payment to be an ETP, paragraph 82-130(1)(b) of the ITAA 1997 specifies that the settlement sum must be received within 12 months of the employee’s termination of employment, unless they are covered by a determination exempting them from the 12 month rule. | 21. Your client’s employment was terminated and the payment was received more than twelve months after termination. | 22. However, you received confirmation that the Commissioner had exercised his discretion and applied the Employment Termination Payments (12 month rule) Legislative Instrument 2007 to the payment received by your client. | 23. Therefore, the determination made under 82-130(7) of the ITAA 1997 applies to your client’s circumstances and provides an exemption from paragraph 82-130(1)(b) of the ITAA 1997. | Payments mentioned in section 82-135 | 24. Section 82-135 of the ITAA 1997 provides that certain payments are not ETPs, including: | ● payments 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 | 25. The term ‘personal injury’ is not defined in the income tax legislation. However, the term has been interpreted by the Administrative Appeals Tribunal (AAT) in several cases. | 26. Flowing from the AAT decisions, it can be said that there are three types of injury a person can receive: | (a) behavioural injury - one that involves physical injury (internal and/or external) and/or mental injury that is clearly discernible to a qualified medical practitioner; | (b) non-behavioural injury - hurt, distress, anxiety, et cetera., that flows from the death of, or serious injury to, a relative or close friend; wrongful dismissal; defamation; et cetera. This type of injury may have legal remedies under the law of torts (for example, defamation, slander), statute (for example, sexual harassment, discrimination), or contract (for example, employment, professional negligence); and | (c) property injury - damage to a person’s property. | 27. Notwithstanding it may be said all three types of injury may be personal, it is considered only the first type (that is, behavioural injury) falls within the meaning of the term personal injury as used in the former paragraph (n) exclusion. Therefore for an amount to be excluded from being an ETP under paragraph 82-135(i), the payment must be for a behavioural type personal injury. | 28. From the evidence you have provided, it is considered that your client was suffering a behavioural injury as the medical consultation stated that the doctor had assessed your client as suffering from an adjustment disorder. | 29. However, in Commissioner of Taxation (Cth) v. Scully (2000) 201 CLR 148; [2000] HCA 6; (2000) 2000 ATC 4111; (2000) 43 ATR 718 (Scully) the High Court, in considering the former paragraph (n) exclusion, held that the compensation must be calculated by reference to the nature and extent of the injury or likely loss to the taxpayer. | 30. The payment in Scully was held not to be in respect of personal injury. Acting Chief Justice Gaudron and Justices McHugh, Gummow and Callinan stated in their joint decision: | In our opinion, the payment in this case cannot be characterised as "consideration... in respect of, personal injury". The fact that the payment is not calculated by reference to the nature and extent of the injury or likely loss to the respondent and the fact that the other benefits are similar to that for total and permanent disablement point inevitably to the conclusion that the payment was "consideration... for, or in respect of" the respondent's termination of employment and her rights under the Trust Deed and was not "consideration... for, or in respect of" her injury. | 31. From the foregoing it is apparent that for an amount to be excluded from being an ETP under paragraph 82-135(i) of the ITAA 1997, in addition to the payment being made for personal injury, the payment must also be calculated by reference to the nature and extent of the injury or likely loss to the taxpayer. | 32. You confirmed that your client had gained employment with a new employer. You also confirmed that the amount received for loss associated with medically diagnosed illness was not calculated by reference to any external factors. | 33. Therefore, it is considered that the payment made for loss associated with medically diagnosed illness is not a reasonable payment made in respect of personal injury for the purposes of section 80-153 of the ITAA 1997. | 34. Consequently it is considered that the payment is an ETP | Payment to cover legal costs | 35. Taxation Ruling TR 2012/8 Income tax and fringe benefits tax: assessability of amounts received to reimburse legal costs incurred in disputes concerning termination of employment (TR 2012/8) considers the reimbursement of legal cost in disputes concerning termination of employment and whether they form part of an ETP within the meaning of section 82-130 of the ITAA 1997. | 36. Paragraph 4 of TR 2012/8 states that: | An amount received in relation to a dispute concerning termination of payment is not an ETP, nor forms part of an ETP, where the amount is capable of being identified as relating specifically to the reimbursement of legal costs. | 37. Additionally, TR 2012/8 provides examples of how legal expenses are treated and example 1 reads: | Alice takes legal action seeking compensation for wrongful dismissal (not including any contractual rights to income) and is successful. She is awarded identified and particularised legal costs. | Alice's award of legal costs, although made in relation to legal action concerning termination of employment, is paid to indemnify her as the successful party for the cost of the litigation and is not paid in consequence of termination of employment. The award of legal costs is not an ETP. | 38. Paragraph 26-28 of TR 2012/8 further discusses whether the legal costs are considered to be paid ‘in consequence of’ termination of payment for the purpose of ETP. | 39. For legal costs to be considered an ETP under section 82-130 of the ITAA 1997 it must be received by an individual in consequence of the termination of their employment. | 40. Taxation Ruling TR 2003/13 explains the Commissioner’s view of the meaning of ‘in consequence’ in relation to ETPs. In relation to settlement of litigation proceedings, the ruling states at paragraph 31: | It is clear from the decision in Le Grand [Le Grand v. Federal Commissioner of Taxation (2003) 51 ATR 139, 2002 ATC 4907], that 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 a 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. | 41. Legal cost awards are paid to reimburse the expenses incurred in engaging in legal proceedings. Although an award for legal costs may be paid in relation to litigation concerning the termination of employment, an award for legal costs is not paid ‘in consequence of termination’ of employment. | 42. Therefore, as the employer agreed to reimburse your client’s legal expenses incurred in taking legal action against them; the reimbursement of the legal costs are not considered to be an ETP and do not form part of your client’s assessable income.