Private ruling: Invalidity payment
Published: June 2012
Ruling period: 1 July 2009 to 30 June 2010 | 1 July 2010 to 30 June 2011
Date scheme commenced: 1 July 2009

Ruling: Q1: 1. Is any part of the partial and permanent disability benefit received by your client in the 2009-10 income year exempt from tax as an invalidity segment of an employment termination payment in accordance with section 82-150 of the Income Tax Assessment Act 1997 (ITAA 1997)? | A1: Yes | Q2: 2. Is any part of the disability benefit received by your client in the 2009-10 income year exempt from tax as a tax free component of a disability superannuation benefit in accordance with section 307-145 of the ITAA 1997? | A2: Yes | Q3: 3. Is any part of the disability benefit received by your client in the 2010-11 income year exempt from tax as a tax free component of a disability superannuation benefit in accordance with section 307-145 of the ITAA 1997? | A3: Yes | Q4: 4. Is any part of the total and permanent disability benefit received by your client in the 2010-11 income year exempt from tax as an invalidity segment of an employment termination payment in accordance with section 82-150 of the ITAA 1997? | A4: Yes.


Relevant legislative provisions: Income Tax Assessment Act 1997 Subsection 82-130. | Income Tax Assessment Act 1997 Subsection 82-130(1). | Income Tax Assessment Act 1997 Paragraph 82-130(1)(a). | 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 Section 82-135. | Income Tax Assessment Act 1997 Paragraph 82-135(i). | Income Tax Assessment Act 1997 Section 82-140. | Income Tax Assessment Act 1997 Section 82-145. | Income Tax Assessment Act 1997 Subsection 82-150(1). | Income Tax Assessment Act 1997 Paragraph 82-150(1)(a). | Income Tax Assessment Act 1997 Paragraph 82-150(1)(b). | Income Tax Assessment Act 1997 Paragraph 82-150(1)(c). | Income Tax Assessment Act 1997 Paragraph 82-150(1)(d). | Income Tax Assessment Act 1997 Subsection 82-150(2). | Income Tax Assessment Act 1997 Section 995-1. | Income Tax Assessment Act 1997 Section 307-120. | Income Tax Assessment Act 1997 Section 307-145. | Income Tax Assessment Act 1936 Section 27A. | Income Tax Assessment Act 1936 Section 27G.

Reasons for decision: Summary: The employment termination payment (payment 1) received by your client from the Employer includes an invalidity segment. The disability benefit of the superannuation lump sum payment (payment 2) received by your client from the Fund Trustee includes a tax free component. The disability benefit of the superannuation lump sum payment (payment 3) received by your client from the Fund Trustee includes a tax free component. The employment termination payment (payment 4) received by your client from the Employer includes an invalidity segment. | Detailed Reasoning - Detailed reasoning: Invalidity segment Where a person's employment is terminated because of ill-health and the person receives an employment termination payment, part of the payment may be tax free. This component is called an invalidity segment. Therefore, prior to determining if the payment includes an invalidity segment, the payment must be an employment termination payment. | Detailed Reasoning - Employment termination payment: Employment termination payments are defined in section 82-130 of the Income Tax Assessment Act 1997 (ITAA 1997). Three conditions need to be satisfied in order for the payment to be treated as an employment termination payment. Failure to satisfy any of the three conditions will result in the payment not being considered an employment termination payment. Any termination payments received more than 12 months after the termination of employment will be taxed as ordinary income at marginal tax rates. | Detailed Reasoning - Payment received in consequence of the termination of employment: The first condition to be met is that there must be a payment that is made in consequence of the termination of employment of the taxpayer. It is considered that the payment received by your client from the Employer, was made in consequence of the termination of your client's employment. Your client was unable to continue work due to the injury and, consequently, was medically discharged from the Employer. Your client was medically assessed by the Employer and subsequently your client's employment was terminated. As a result, the payment of a partial and permanent disability benefit and later, a total and permanent disability benefit, were made under the Award. The payments received by your client from the Employer would not have been approved and paid unless her employment was terminated. In this case the termination was based on medical grounds. Therefore, the condition under subparagraph 82-130(1)(a)(i) of the ITAA 1997 has been satisfied. | Detailed Reasoning - Payment is received no later than 12 months after termination of employment: The facts of this case show that your client's final day of employment with the Employer was in the 2009-10 income year. The PAYG payment summaries from the employer and the Fund show that all the payments were received within 12 months of your client's termination of employment. As a result, as the payments were received within 12 months of the termination, they therefore satisfy the requirements of paragraph 82-130(1)(b) of the ITAA 1997. Not a payment mentioned in 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, among others, include: · accrued annual leave and long service leave payments which are covered by Subdivision 83-A and Subdivision 83-B respectively; · superannuation benefits which are covered by Divisions 301 to 307; and · the tax-free parts of a genuine redundancy payment or an early retirement scheme payment worked out under section 83-170. However, consideration must be given as to whether the payments made by the Employer represent reasonable capital payments for personal injury. If they do, then the payments will not be employment termination payments under paragraph 82-135(i) of the ITAA 1997. Paragraph 82-135(i) specifically excludes from being an employment termination payment: · a capital payment for, or in respect of, personal injury to you so far as the payment is reasonable having regard to the nature of the personal injury and its likely effect on your capacity to derive income from personal exertion (within the meaning of the definition of income derived from personal exertion in subsection 6(1) of the Income Tax Assessment Act 1936 ); This exclusion is for a payment or benefit that compensates or reimburses the taxpayer for or in respect of the particular injury. From 1 July 2007, paragraph 82-135(i) of the ITAA 1997 has replaced former paragraph (n) of the definition of 'eligible termination payment' in former subsection 27(1) of the Income Tax Assessment Act 1936 (ITAA 1936) (former paragraph (n)). However, the Explanatory Memorandum (EM) to the Tax Laws Amendment (Simplified Superannuation) Bill 2006 stated, in relation to section 82-135 of the ITAA 1997, that: · consistent with current legislation, certain payments are prevented from qualifying as employment termination payments. In accordance with section 1-3 of the ITAA 1997, sections in the ITAA 1936 which have been rewritten in the ITAA 1997 will have the same meaning where it is expressing the same idea, even if the words used are different. It is therefore appropriate to cite cases that refer to the previous legislation. In Commissioner of Taxation v. Scully (2000) 201 CLR 148; [2000] HCA 6; 2000 ATC 4111; (2000) 169 ALR 459; (2000) 74 ALJR 504; (2000) 43 ATR 718 (Scully) the High Court, in considering former paragraph (n), held that compensation must be calculated by reference to the nature and extent of the injury or likely loss to the taxpayer. 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. From the foregoing it is apparent that for an amount to meet the requirements of paragraph 82-135(i) of the ITAA 1997, the payment must be for, or in respect of, personal injury and be calculated by reference to the nature and extent of the injury or likely loss to the taxpayer. In this case, a payment made in accordance with a Schedule of the Award to an employee is only made if an employee has suffered a Partial and Permanent Disability (PPD) as a result of an on duty injury. Sometime after a PPD payment was made it was determined that your client had suffered a Total and Permanent Disability (TPD) and a payment was approved under another Schedule of the Award. Consequently, your client was entitled to a higher benefit. In determining the later TPD benefit, the Employer took into account the amount already paid as a PPD benefit. Further, the Employer also took into account the amount paid by your client's superannuation fund (the Fund) as a TPD benefit. The net result being that your client was paid the total amount over the 2009-10 and 2010-11 income years. The amounts paid as lump sums in accordance with the two Schedules of the Award (one for the TPD benefit and the other for the PPD benefit) are based on the age and salary of the employee at the time of the injury. Consequently, the level of incapacity is irrelevant as to the amount received under the Award. The only criterion is that the employee has suffered either a PPD or TPD and cannot be redeployed elsewhere with the Employer. The lump sum payments are consideration for, or in respect of, the employee's termination of employment and the employee's rights under the Award and not consideration for, or in respect of, the employee's injury. The lump sum payment is not calculated by reference to the nature and extent of the injury or likely loss to the employee. In other words, the payment is to compensate the employee for the loss of their employment as a result of the injury sustained rather than to compensate for the injury itself and any subsequent loss of earning capacity. Accordingly, it is considered that paragraph 82-135(i) of the ITAA 1997 does not apply to the lump sum payments being made under the Award. Therefore your client's payments by the Employer are not of a type paragraph 82-130(1)(c) of the ITAA 1997 would exclude. | Detailed Reasoning - Invalidity segment: Subsection 82-150(1) of the ITAA 1997 states that: An employment termination payment includes an invalidity segment if: (a) the payment was made to a person because he or she stops being gainfully employed; and (b) the person stopped being gainfully employed because he or she suffered from ill-health (whether physical or mental); and (c) the gainful employment stopped before the person's last retirement day; and (d) 2 legally qualified medical practitioners have certified that, because of the ill-health, it is unlikely that the person can ever be gainfully employed in capacity for which he or she is reasonably qualified because of education, experience or training. | Detailed Reasoning - Gainful employment: Section 995-1 of the ITAA 1997 defines the term 'gainfully employed' as follows: gainfully employed means employed or self-employed for gain or reward in any business, trade, profession, vocation, calling, occupation or employment. Until your client became ill your client was employed on a full-time basis as an employee with the Employer. | Detailed Reasoning - Payment for stopping gainful employment: As stated above, the payments are considered to be payments made on the termination of your client's employment. | Detailed Reasoning - Employment termination occurred because of ill-health: The requirement under paragraph 82-150(1)(b) of the ITAA 1997 is that the termination of employment resulted from the taxpayer's ill-health, that is, the ill-health was the immediate cause for the termination of the taxpayer's employment. In this case, the facts show the termination of employment occurred after your client was medically assessed and discharged from employment after considering your client's injuries. This indicates your client was unable to resume normal work due to their disability. Therefore, it is considered that this requirement is satisfied. | Detailed Reasoning - Termination of employment occurred before last retirement date: The third condition for a payment to qualify as an invalidity component is that it was made before the taxpayer's last retirement date. The payments were made when your client was at an age that was well before the normal retirement age of 65. Therefore, the condition of paragraph 82-150(1)(c) of the ITAA 1997 has been satisfied. Certification from 2 legally qualified medical practitioners that the disability is likely to result in the taxpayer being unable ever to be employed. In respect of this requirement, it must be demonstrated that the disability at the time of termination was such that: ...it is unlikely that the person can ever be gainfully employed in capacity for which he or she is reasonably qualified because of education, experience or training. Therefore, paragraph 82-150(1)(d) of the ITAA 1997 requires that there must be the likelihood that the disability of the taxpayer will preclude the taxpayer from ever being employed in a role, for which the taxpayer is reasonably qualified. Prior to 1 July 1994, it had only been necessary for the termination of employment to occur because the taxpayer was physically or mentally incapacitated and, therefore, unable to engage in that employment. It did not require there be an incapacity to engage in any employment. However, amendments made to the section that applied prior to 1 July 2007, former section 27G of the ITAA 1936, by the Taxation Laws Amendment (Superannuation) Act 1992 require the incapacity to prevent the taxpayer ever being able to undertake any employment for which the taxpayer is reasonably qualified. The EM to the Taxation Laws Amendment (Superannuation) Bill 1992 confirms this . In explaining the test for invalidity, the EM stated the following: · To clarify the test for incapacity and to place the onus of determining invalidity on legally qualified medical practitioners, from 1 July 1994 the incapacity of the person will have to be certified by two medical practitioners. · The relevant test is also to be modified so that the invalidity payment concession is extended only to people who are unable to undertake any form of employment for which they are reasonably qualified. A person who is unable to continue his or her current employment, but is able to undertake other appropriate employment, will not have access to the concession. It is clear, therefore, that a person who, while unable to continue to perform the duties of their current employment, is able to undertake other appropriate employment for which they are reasonably qualified, would not satisfy the relevant test for incapacity. That test being the condition contained in paragraph 82-150(1)(d) of the ITAA 1997, which is the rewritten provision for section 27G of the ITAA 1936. However, the use of the term 'appropriate employment' in the EM suggested the intention that the term 'reasonably qualified' be interpreted as meaning neither over nor under qualified to any significant extent. Even if a taxpayer's employment is terminated by reason of disability, this does not mean that the second part of the test for invalidity is satisfied. The two parts are independent. The fact that the medical practitioners have to determine invalidity does not mean that the medical practitioners have to determine the reason for termination. A person's employment can be terminated because of disability, irrespective of whether two medical practitioners form an opinion as to whether the disability will prevent the taxpayer from ever being able to be employed in a capacity for which the taxpayer is reasonably qualified because of education, training or experience. Further, the requirement that the disability is likely to result in the taxpayer being 'unable ever to be employed in a capacity for which he or she is reasonably qualified' extends to full-time employment, part-time or casual employment. A person who is not able to work full-time but can work part-time or as a casual in any employment for which the taxpayer is reasonably qualified will not receive the concessional treatment. In this case, after examining the contents of the medical reports provided it is considered that there are two reports that satisfy the requirement prescribed in paragraph 82-150(1)(d) of the ITAA 1997. Two legally qualified medical practitioners have certified, in two medical certificates that your client is suffering from a medical condition as a result of which, in their opinion, it is unlikely that your client can ever be employed in any capacity for which your client is reasonably qualified because of education, experience and training. It is also noted that prior to entering the Employer your client performed clerical duties after completion of secondary education. It is further noted, however, that your client has not worked since leaving the employ of the Employer. Therefore, as two medical practitioners have provided certificates that attest to your client being unable to ever be employed in a capacity for which they are reasonably qualified because of education, training or experience, it is considered that the final condition of subsection 82-150(1) of the ITAA 1997 has been satisfied. | Detailed Reasoning - Components of an employment termination payment: Under section 82-140 of the ITAA 1997 the invalidity segment included in an employment termination payment is tax free. An employment termination payment made after 1 July 2007 comprises the following components: · Tax free component - this includes the invalidity segment and/or pre-July 83 component (if any); and · Taxable component - the amount remaining after deducting the tax free component from the total payment. · Calculation of invalidity segment - payments from Employer ) As your client has satisfied the requirements for the payment of an invalidity segment, an element of the employment termination payment received from the Employer will be tax free. The amount of the invalidity segment is worked out by applying the formula in subsection 82-150(2) of the ITAA 1997: Work out the amount of the invalidity segment by applying the following formula: Amount of employment termination payment × Days to retirement Employment days + Days to retirement | Detailed Reasoning - where:: days to retirement is the number of days from the day on which the person's employment was terminated to the last retirement day. employment days is the number of days of employment to which the payment relates. The term 'last retirement day' is defined in subsection 995-1(1) of the ITAA 1997 as meaning: (a) if an individual's employment or office 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); or (b) in any other case - the day on which he or she would turn 65. In the present case the last retirement day will be the day on which your client would turn 65. | Detailed Reasoning - Payment 1: Therefore, the amount calculated in accordance with the above formula is the invalidity segment included in the employment termination payment which is tax-free. The remaining (that is, the total payment less the tax free amount) is a taxable component to be included in your client's income tax return for the 2009-10 income year. As this amount is under the employment termination payment cap for the 2009-10 income year and your client has not yet reached preservation age, your client will be eligible to a tax offset under paragraph 82-10(3)(b) of the ITAA 1997. The tax offset will ensure that the rate of tax on the taxable component of will be no more than 30% (plus Medicare levy). | Detailed Reasoning - Payment 4: The amount calculated in accordance with the above formula is the invalidity segment included in the employment termination payment which is tax free. The remaining (that is, the total payment less the tax free amount) is a taxable component to be included in your client's income tax return for the 2010-11 income year. As this amount is under the employment termination payment cap for the 2010-11 income year and your client has not yet reached preservation age, your client will be eligible to a tax offset under paragraph 82-10(3)(b) of the ITAA 1997. The tax offset will ensure that the rate of tax on the taxable component will be taxed at no more than 30% (plus Medicare levy). | Detailed Reasoning - Lump sum payments from a superannuation fund: When a person receives a disability benefit from a superannuation fund, in order to work out the components of a superannuation benefit , the proportioning rule in section 307-125 of the ITAA 1997 is modified so that the tax free component is increased to reflect the period where the member could have expected to be gainfully employed if the disability had not occurred. | Detailed Reasoning - Calculation of disability benefit - payments from the superannuation fund (Fund Trustee): The amount of the disability segment is worked out by applying the formula in subsection 307-145(3) of the ITAA 1997 which states: Work out the amount of the invalidity segment by applying the following formula: Amount of benefit × Days to retirement Service days + Days to retirement | Detailed Reasoning - where:: · days to retirement is the number of days from the day on which the person stopped being capable of being gainfully employed to his or her last retirement day. · service days is the number of days in the service period for the lump sum. | Detailed Reasoning - Payment 2: As per subsection 307-145(3) of the ITAA 1997 the tax free component is the sum of: · disability modification · crystallised component · contributions component Therefore, the total amount calculated above is the tax-free component included in the superannuation lump sum payment. The remaining (that is, the total payment less the tax free component) is a taxable component to be included in your client's income tax return for the 2009-10 income year. As your client is below preservation age, your client will be eligible to a tax offset under subsection 301-35(2) of the ITAA 1997. The tax offset will ensure that the rate of tax on the taxable component will be no more than 20% (plus Medicare levy). | Detailed Reasoning - Payment 3: As per subsection 307-145(3) of the ITAA 1997 the tax free component is the sum of: · disability modification · crystallised component · contributions component Therefore, the amount calculated above is the tax-free component included in the superannuation lump sum payment which is tax free. The remaining (that is, the total payment less the tax free component) is a taxable component to be included in your client's income tax return for the 2010-11 income year. As your client is below preservation age, your client will be eligible to a tax offset under subsection 301-35(2) of the ITAA 1997. The tax offset will ensure that the rate of tax on the taxable component will be no more than 20% (plus Medicare levy).

Please check this edited version to be sure that there are no details remaining that you think may allow you to be identified. If you have any concerns about this ruling you wish to discuss, you will find our contact details in the fact sheet. | Relevant facts: Your client is under 55 years of age. | After completing secondary education your client commenced a course. | Prior to completing the above course, your client commenced employment with a firm where your client worked for a few years. | Your client then commenced employment with the Employer. Your client also commenced to be a member of a superannuation fund (the Fund) on the same date as commencing employment with the Employer. The Fund is administered by the Fund Manager on behalf of the Fund Trustee. | Your client suffered an injury while employed with the Employer. | Your client was assigned to a rehabilitation provider. | Your client's Employer's insurer accepted worker's compensation liability for your client's injury. | Your client returned to work in one department of the Employer and was later moved to another area. | Your client last attended work with the Employer towards the end of the 2008-09 income year. | In a letter dated months later, your client was advised by the Employer that your client was being medically assessed. | In a letter dated over a week later the Employer advised your client that their medical retirement had been approved and what the last day of service would be. | In a letter dated less than a month later the Employer advised that a payment had been approved as a partial and permanent disability (PPD) benefit. They also advised that the PPD benefit would be calculated in accordance with a Schedule of an Award (the Award). | In a letter dated several weeks later the Fund Manager advised that a net amount had been paid by the Fund to your client in the 2009-10 income year after deducting tax. | The Fund Manager further advised that a total and permanent invalidity benefit less tax was paid by the Fund in the 2010-11 income year. | In a letter dated almost a month later, the Employer advised that a total and permanent disability benefit (TPD) calculated under another Schedule of the Award was approved. However, in accordance with the provisions of the Award, this amount was to be reduced by the amount of the PPD benefit previously paid by the Employer and the total and permanent invalidity benefit previously paid by the Fund. Accordingly, the net amount would be paid to your client. | Your client has not been employed in any capacity after your client left employment with the Employer. | In accordance with the payment summaries provided, your client received the following payments : In the 2009-10 income year - a payment from the Employer (payment 1) | In the 2009-10 income year - a payment from the Fund (payment 2) | In the 2010-11 income year - a payment from the Fund (payment 3); and | In the 2010-11 income year - a payment from the Employer (payment 4). | The Fund Manager has provided the following information regarding the calculation of the disability benefits by the Fund: For payment 2, the amounts of the crystallised component, the contributions component and the post 94 invalidity component. | For payment 3, the amounts of the crystallised component and the contributions component and the post 94 invalidity component.