Private ruling: Genuine redundancy
Published: April 2015
Ruling period: Year ending 30 June 20AA
Date scheme commenced: 1 July 20ZZ

Ruling: Q1: Is any part of the payment the taxpayer received from their employer a tax free part of a genuine redundancy payment under 83-175 of the Income Tax Assessment Act 1997 ? | A1: No

Relevant facts and circumstances: The taxpayer commenced employment with the employer in the 20XX-YY income year as an employee in one of the employer's departments. The taxpayer worked in a particular team, which operated using a 'pool system' where work was allocated by reference to workload, interests and expertise rather than by allocating particular types of work to particular employees. As such, the taxpayer worked on a broad range of matters and his/her role could be described as 'generalist.' In 20ZZ, the department underwent a review to determine what changes were needed. The outcome of the review was a decision to reorganize the department and switch from the 'pool system' to one where each person would be responsible for specific areas of law or specific assets (or both). During the 20ZZ-AA income year, the taxpayer was informed via telephone that X out of Y members of the team will be 'let go.' The taxpayer was not asked whether he/she agreed with the decision. The taxpayer was also not advised of any specific reason for the decision. Soon after, the taxpayer received an email from his/her team leader which stated that a decision had been made to end the taxpayer's employment "by way of mutual separation." Attached to the email were a draft Separation Agreement and a document setting out the newly proposed structure for the department. The draft Separation Agreement refers to the employment ending "by mutual agreement." Later, the taxpayer wrote to the employer's HR department and asked: My understanding is that I have been made redundant. The agreement refers to my employment ceasing by mutual agreement. Is there a distinction, and if so, does anything turn on it? For example, does it change the tax treatment on the severance payment? A response to the taxpayer's query was provided by the employer's HR department. The response states: …To be clear, you have not been retrenched as your role is not redundant. There is a distinction between this and a mutual separation. Payment received under a mutual separation will be taxed at your marginal tax rate, while a payment received under a retrenchment would be taxed at a concessional rate. After this, the taxpayer wrote to his/her team leader: …I understand that everyone else is being made redundant. I'm wondering if you can provide some clarity on why my situation appears to be different… A response was provided to the taxpayer which stated: …Essentially, there is a distinction between when a role is redundant and when a role remains but the person is no longer considered suitable for it. The taxpayer and his/her team leader then had a telephone conversation discussing this issue. The taxpayer was informed that: • His/her existing generalist role, like all roles in the team, no longer existed, as a result of the review. • The leadership team considered that the taxpayer had the skills and experience necessary to undertake a new manager role that was responsible for certain projects, but considered the taxpayer to be unsuitable for the role. • The taxpayer was considered unsuitable because a member of the leadership team was dissatisfied with the taxpayer's handling of a particular contractual dispute that had arisen. The taxpayer notes that while he/she was working for the employer, he/she barely performed any work on the projects that the new manager position would be responsible for. Later in the 20ZZ-AA income year, the taxpayer signed the Separation Agreement, which states that taxpayer would be paid: • An amount for estimated accrued annual leave; and • A separation payment comprised of • an ex gratia severance payment; and • an additional incentive payment Soon after, by agreement with the employer, the taxpayer's employment ceased so that he/she could take up a new position with a different employer. The taxpayer applied to the ATO for a private ruling to determine whether the payment received from the employer was a genuine redundancy payment. In the private ruling application, the taxpayer provided the following documents: • Copies of the department's operating model; • Organisational charts showing the composition of the department; • The taxpayer's employment contract; • The taxpayer's secondment agreement; • Notes from a teleconference regarding the outcomes of the review of the department; • Email and attachments from the taxpayer's team leader; • Email conversations between the taxpayer, his/her team leader and the employer's HR representative

Relevant legislative provisions: Income Tax Assessment Act 1997 Section 82-130 | Income Tax Assessment Act 1997 Section 82-135 | Income Tax Assessment Act 1997 Paragraph 82-135(c) | Income Tax Assessment Act 1997 Paragraph 82-135(d) | Income Tax Assessment Act 1997 Subsection 82-175(4) | Income Tax Assessment Act 1997 Section 83-10 | Income Tax Assessment Act 1997 Subsection 83-10(2) | Income Tax Assessment Act 1997 Section 83-15 | Income Tax Assessment Act 1997 Paragraph 83-15(a) | Income Tax Assessment Act 1997 Section 83-175 | Income Tax Assessment Act 1997 Subsection 83-175(2)

Reasons for decision: Summary: The separation payment the taxpayer received from the employer is an employment termination payment. The payment is not a genuine redundancy payment as the taxpayer's dismissal was not caused by the redundancy of his position. The unused annual leave payment the taxpayer received from the employer is excluded from being an employment termination payment. The amount is to be included in the taxpayer's assessable income. As the payment was not made in connection with a genuine redundancy payment, the taxpayer is not entitled to a tax offset on the amount. | Detailed Reasoning - Genuine redundancy: 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 Income Tax Assessment Act 1997 (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 he or she turned 65; (ii) if the employees 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. | Detailed Reasoning - Payments not covered: (4) A payment is not a genuine redundancy payment if it is a payment mentioned in section 82-135 (apart from paragraph 82-135(e)). Section 82-135 of the ITAA 1997 includes (among others): • superannuation benefits; • the payment of a pension or annuity; and • unused annual leave (paragraph 82-135(c)) or long service leave payments (paragraph 82-135(d)). | Detailed Reasoning - Unused annual leave: In view of this, the payment the taxpayer received for unused annual leave is not a genuine redundancy payment under subsection 82-175(4) of the ITAA 1997. The taxation treatment of this payment is governed by sections 83-10 and 83-15 of the ITAA 1997 and will be addressed in our response below. | Detailed Reasoning - Separation payment: In Taxation Ruling 2009/2: Income tax: genuine redundancy payments (TR 2009/2), the Commissioner provided clarification on the requirement outlined in subsection 83-175(1) of the ITAA 1997. According to paragraph 11 of TR2009/2: There are four necessary components within this requirement: • The payment being tested must be received in consequence of an employee's termination. • That termination must involve the 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. Each of the components will be discussed individually below in relation to the separation payment the taxpayer received from the employer. | Detailed Reasoning - Component 1: Payment being tested must be received in consequence of an employee's termination: 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' sets out the Commissioner's views on when a payment is made 'in consequence of' termination of employment. According to paragraph 30 of TR 2003/13: 30. 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. In view of this, the first component within the requirement under subsection 83-175(1) of the ITAA 1997 is satisfied for this case | Detailed Reasoning - Component 2: That termination must involve the employee being dismissed from employment: Dismissal carries with it the concept that the termination of a person's employment is involuntary and instigated by the employer. Paragraphs 18 and 19 of TR 2009/2 elaborates on this further: 18. 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. 19. 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. 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. In the current case, even though the Separation Agreement states that the taxpayer's employment will end "by mutual agreement," the facts of the case indicate that the decision to terminate was unilaterally made by the employer. For example, in an email to the taxpayer in September 20ZZ, it states that a "decision has been made to end your employment with the Company." This was not a situation where the taxpayer had the capacity to make a choice. The taxpayer was not consulted on the matter and was simply informed about the decision after it had been made. The termination would have occurred regardless of the taxpayer's wishes. In view of this, the second component within the requirement under subsection 83-175(1) of the ITAA 1997 is satisfied for this case | Detailed Reasoning - Component 3: That dismissal must be caused by the redundancy of the employee's position: The term 'redundancy' is not defined in the ITAA 1997 and therefore should be read in accordance with its ordinary meaning. According to the Australian Oxford Dictionary, the word 'redundant' is defined as meaning: • superfluous; not needed • that can be omitted without any loss of significance • (of a person) no longer needed at work and therefore unemployed The South Australian Supreme Court in R v. Industrial Commission (SA); Ex parte Adelaide Milk Supply Co-operative Ltd (1977) 16 SASR 6 provided a definition of the term as it relates to a job or position. According to Bray CJ: …a job becomes redundant when an employer no longer desires to have it performed by anyone Paragraph 263 of TR 2009/2 provides additional clarity on how the courts have interpreted the term: 263. Accordingly, this approach focuses on the underlying reality or substance of the position, that is, the existence of the functions, duties and responsibilities attached to a position. It does not focus on whether the position, in terms of a name or position number, has been abolished. A position is redundant when the functions, duties and responsibilities formerly attached to the position are determined by the employer to be superfluous to the current needs and purposes of the organisation. Sometimes there will be multiple reasons for why a dismissal occurred. In such a situation, according to paragraph 24 of TR 2009/2, in order for the dismissal to be caused by the redundancy, "the redundancy of the relevant position must be the prevailing or most influential reason for the dismissal." This is particularly relevant in cases when an employer decides to restructure their organisation at the same time as identifying underperformance of particular members of staff or areas within the existing organisational structure. In the event that employees are dismissed in these circumstances, careful consideration will need to be given to what was the prevailing or most influential cause of dismissal. This is precisely the situation that arose in the taxpayer's case as there appears to be multiple factors influencing the employer's decision to dismiss the taxpayer. On the one hand, the employer's review of the department introduced a number of changes to the size and shape of the department and the types of work it undertakes. On the other hand, the taxpayer was no longer considered suitable for his/her role because a member of the leadership was dissatisfied with the taxpayer's handling of a particular contractual dispute that had arisen. According to paragraph 28 of TR 2009/2: 28. A dismissal is not caused by redundancy where personal acts or default are the prevailing or most influential cause for the termination. For example, a person may be dismissed due to unsatisfactory performance or behaviour. However, it is unclear that this was actually the case in the taxpayer's situation. While there was a phone conversation informing the taxpayer that there was dissatisfaction over the handling of a particular contractual dispute, the employer did not link the taxpayer's termination to any performance issues in any written documents associated with the case. In addition, at no point was the taxpayer informed that this would be a cause for dismissal. Although the employer may not have made it clear that the dismissal was due to the taxpayer's underperformance, the employer did made it clear that the taxpayer's dismissal was not due to a redundancy. According to the Separation Agreement prepared by the employer and signed by the taxpayer, "the Employment will end by mutual agreement." The words 'redundancy' or 'redundant' are not mentioned anywhere in the agreement. Further clarity is provided in an email exchange between the taxpayer and the employer during September 20ZZ. In response to a query from the taxpayer, the employer explained: …To be clear, you have not been retrenched as your role is not redundant. There is a distinction between this and a mutual separation. Payment received under a mutual separation will be taxed at your marginal tax rate, while a payment received under a retrenchment would be taxed at a concessional rate. The taxpayer then wrote to his team leader: …I understand that everyone else is being made redundant. I'm wondering if you can provide some clarity on why my situation appears to be different… A response was provided to the taxpayer: …Essentially, there is a distinction between when a role is redundant and when a role remains but the person is no longer considered suitable for it. The content of the Separation Agreement and these emails strongly suggests that the employer does not consider the taxpayer's position to be redundant. This is especially important in light of paragraph 25 of TR 2009/2, which states: 25. 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. Accordingly, it is fundamentally the employer's decision that a position is redundant… [emphasis added] As the employer has not determined that the position is superfluous to their needs, the dismissal in the taxpayer's case is not caused by the redundancy of their position. In the taxpayer's private ruling application, he argued that the employer's characterisation of the dismissal should not be determinative, and refer to paragraphs 277 and 278 of TR 2009/2, which state that: 277. Whether a redundancy payment is genuine is to be determined on an objective basis. It is not sufficient that an employer and employee have an understanding that a payment is a redundancy payment or that the employer calls the payment a redundancy payment to give the employee a better taxation outcome. The nature of the termination of an employee does not depend on what was communicated to that employee in relation to the termination. 278. This approach is supported by the decision in Fosters' Group Limited v. Wing , where the reasons communicated to the employee for his termination were not seen to determine the question of whether the termination was by reason of redundancy. While the taxpayer makes a valid point, the context of paragraphs 277 and 278 of TR 2009/2 is in relation to whether a redundancy is 'genuine' or 'contrived.' The ATO's position on the matter is that the parties to an agreement cannot alter the true nature of a particular thing, or deem it to be something that it is not, by putting a different label on it. An express term in an agreement cannot take effect if it is clearly contradicted by the facts of the case. However, this is clearly not what is happening in the current case. In the taxpayer's situation, it is not entirely clear as to what the prevailing cause of the dismissal was. In such a situation, the employer bought clarity to the matter and resolved any ambiguity by explicitly stating that the taxpayer's position remained and by classifying the dismissal as being due to "mutual agreement" rather being due to redundancy. The taxpayer can then be said to have agreed with this classification of the dismissal when he/she signed and accepted the Separation Agreement. The third component within the requirement under subsection 83-175(1) of the ITAA 1997 has thus not been satisfied. | Detailed Reasoning - Component 4: The redundancy payment must be made genuinely because of a redundancy: The fourth component within the requirement under subsection 83-175(1) of the ITAA 1997 cannot be satisfied because the dismissal was not caused by the redundancy of the employee's position. | Detailed Reasoning - The payment is not a genuine redundancy payment: In view of the analysis above, the first condition under section 83-175 of the ITAA 1997 has not been met. As the first condition has not been met, it will not be necessary to examine if the other conditions under section 83-175 will be met. As stated earlier, all the conditions under section 83-175 must be met before the payment is considered a genuine redundancy payment. The separation payment received by the taxpayer is not a genuine redundancy payment. The payment is an employment termination payment under section 82-130 of the ITAA 1997. | Detailed Reasoning - Tax treatment of employment termination payments: The separation payment received by the taxpayer is not a genuine redundancy payment. The payment is an employment termination payment under section 82-130 of the ITAA 1997. An employment termination payment will comprise of the following components: • Tax free component - this includes the pre July 83 segment (if any) and/or the invalidity segment (if any); and • Taxable component - the amount remaining after deducting the tax free component from the total payment. The tax free component is not assessable income and is not exempt income. The taxable component is included, in full, as assessable income. The taxpayer commenced employment with the employer in the 20XX-YY income year and was not terminated on medical grounds. As such, the taxable component in this case is the full amount of the employment termination payment. Employment termination payments are subject to an applicable cap amount. In this case, the cap is $180,000 less the taxpayer's other taxable income for the year. As the taxpayer is under preservation age, the amount of the ETP up to the cap amount is taxed at 30% plus Medicare levy. The amount of the ETP over the cap amount is taxed at 45% plus Medicare levy. | Detailed Reasoning - Taxation treatment of an unused annual leave payment: The unused annual leave payment is included in the taxpayer's assessable income under subsection 83-10(2) of the ITAA 1997 and subject to marginal rates of tax. As it has been determined that the taxpayer's position is not genuinely redundant, this payment is not considered to have been made in connection with a genuine redundancy payment. As such, the taxpayer is not entitled to the tax offset under paragraph 83-15(a) of the ITAA 1997. | Detailed Reasoning - Conclusion: The separation pay is not considered to be a genuine redundancy payment. The payment is considered to be an employment termination payment. As the taxpayer's employment was not terminated due to genuine redundancy, the taxpayer is not entitled to a tax offset on payments for unused annual leave.