Australia: Snapshots: Tax on employment cases

Two decisions highlight the need to consider the intricacies of tax law when it comes to payments made to employees or former employees. The first decision concerns capital payments for general damages and the second decision concerns the application of compulsory superannuation to contractors.

Case 1: General damages

In Public Servant v Federal Commissioner of Taxation [2014] ITAA 247 the Administrative Appeals Tribunal was required to review an objection to a private ruling on whether a payment made to a former Public Servant, under the terms of a Deed of Release which expressly provided that it represented general damages, was income or capital. This was important because if it was income it would be subject to tax being withheld as an employment termination payment.

The relevant facts leading to this matter were as follows:

  • The Public Servant commenced employment with a government agency in August 2011.
  • In October 2011 the Public Servant lodged a workers compensation claim.
  • The government agency's insurer accepted provisional liability for the claim in December 2011.
  • The insurer accepted full liability for the claim on 19 January 2012.
  • The Public Servant received notification in late January 2012 that the employment would not continue past 7 February 2012, being the expiry of the probationary period.
  • The insurer then rejected ongoing liability and withdrew medical support.
  • The Public Servant lodged a complaint with the Australian Human Rights Commission in February 2012.
  • Following a conciliation meeting the parties entered into a Deed of Release under which the Public Servant received an ex-gratia payment of $15,000 for general damages.
  • Despite what the Public Servant expected, tax on an employment termination payment was withheld.
  • The Public Servant sought a private ruling which was not in her favour and in respect of which she objected in the hearing before the Administrative Appeals Tribunal.

When issuing the private ruling the Commissioner focused on the Deed of Release which included the following recital:

"...[W]ithout admission of liability, the Employer and the Employee have agreed to the Cessation and to settle the matters and potential claims between them and arising out of and in connection with the Employment and the Cessation..."

Clause 2.1 of the Deed of Release also provided as follows:

"...[W]ithout admission of liability, the Employer will pay the Employee the amount of $15,000 as an ex-gratia payment for general damages."

The Commissioner based the private ruling on the assessment that the settlement payment would not have been made if the Public Servant had not ceased her employment. On this basis it was determined to be causally connected to her termination of employment. This meant that the payment constituted a payment that was "in consequence of the termination of your employment" and was therefore an employment termination payment under sub-section 82 – 130(1) of the Income Tax Assessment Act 1997 (Cth) (ITAA). There is an exclusion if the payment falls within section 82 – 135 of the ITAA which provides:

"(1) 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 exertion ..."

Unfortunately the narrow facts relied upon by the Commissioner in the private ruling dictated the result that the payment was an employment termination payment. However, the Tribunal made it clear that if they were able to do so they would have held that in fact the payment was in order to settle the alleged discrimination claim. This would have led to a finding that the payment was a capital payment in respect of personal injury and therefore not liable to have tax withheld.

If the Deed of Release had specified that the payment was for general damages without expressly drawing a link to the cessation of employment this would also have assisted the Tribunal to come to an alternative view. It would then have been an identifiable amount which was calculated in respect of personal injury and that was capable of being separated from the total settlement sum. This is one requirement in order to substantiate a capital payment.

This decision highlights the importance of:

  1. properly assessing the entitlement to a payment for general damages; and
  2. ensuring relevant documents are drafted so that the 'general damages' payment is expressed to be connected to events not related to the cessation of employment and expressly for other matters.

With an increase in the prevalence of claims for distress and humiliation, including in the context of discrimination law and breaches of the General Protections provisions under the Fair Work Act 2009 (Cth), this is an issue for employers to be conscious of and to be clear as to the reasons why certain payments are being made. In particular, care needs to be taken when using template Deeds of Release, which was the context in which the particular drafting in this case became the focus of attention. Care is also needed to assess the boundaries of a reasonable payment under the general damages category.

Case 2: Superannuation entitlements

A second area that requires constant review concerns superannuation obligations, particularly in respect of contractors. In the decision of XVQY v Commissioner of Taxation [2014] AATA 319, there was a dispute over the Commissioner's assessment that certain contractors were in fact "workers" within the meaning of the Superannuation Guarantee (Administration) Act 1992 (Cth) (SGA Act). In particular, the Commissioner determined that the contractors worked under contracts "wholly or principally for the labour of the person" with the result under the extended definition of "worker" in section 12 of the SGA Act that they would then be an employee for superannuation purposes.

XVQY conducted a plumbing business which ultimately contracted with Domain Pty Ltd, the representative of the Government Housing Authority. It in turn subcontracted the work to other licensed tradespeople. The question was whether the tradespeople were contractors or employees.

Contractor or employee?

The Taxation Appeals Division went through a number of standard tests for whether an individual is an employee or contractor, including the following general assessments:

  • The level of control exercised over the individual, with the more control being exercised the more likely the relationship is one of employment. In this case, the relevant evidence on control was that the worker made the decision on how many jobs to accept and when to attend to the jobs during the course of a day. In the circumstances it was held this did not constitute evidence of supervision and control in the nature of an employee relationship.
  • Representation of the business by the worker. In this case, while there were identification cards for security purposes, there were no other indicia of representation such as uniforms and the like.
  • Integration of the worker's services to the principal's business. Here it was held that each of the workers were carrying out their own business and that it was not necessary to show that they were carrying out work for the public in order for this to be the case. In this case, while it was not necessary to prove that the workers did perform work for the public, it was held that it was more probable than not that their business could be considered as integrated into the business of XVQY.
  • Whether the worker was responsible for the outcome however they may choose to achieve it. The Tribunal considered the schedule of prices paid to workers for the performance of work and determined that they were on a price per job basis and not intended to reflect the estimated time taken to do the work. In other words, the rates applied for the completion of a job and the actual result contracted for. Accordingly, this evidence suggested the conducting of their own business and not a relationship of employment.
  • The power to delegate is a significant factor in deciding whether a worker is an employee. In this case, there was the power to delegate to another equally licensed worker. With delegation, the worker originally allocated the job remained liable for payment to the other workers engaged to assist, and also ultimately liable for the conclusion of the work.
  • The risk and opportunity for profit. It was held that this largely remained with each of the workers and that they could choose the number and extent of jobs accepted on a particular day or over any particular period. In addition, each worker was required to hold insurance on the basis that the risks rested with each of them. In those circumstances it was held that the risk rested with the worker.
  • Work for others. The Tribunal considered whether the workers were economically dependent upon XVQY in the sense that they substantially performed work only for that entity. While the Tribunal found that the major part of the worker's income came from working with XVQY it held that this was not determinative.
  • The provision of tools and equipment together with the incurring of business expenses indicate a contractor relationship. The Tribunal again assessed the extent to which each of the workers were required to purchase their own tools and equipment and held that this was a factor indicative of them being contractors.

Based on all of the above, which are also found in Superannuation Guarantee Ruling 2005/1, the Tribunal held that the workers were not employees under the common law and within the usual meaning of this word.

Still liable for superannuation?

The Tribunal then went on to determine whether they were workers within the expanded definition under section 12(3) of the SGA Act which, relevantly, provides that someone is an employee if they work under a contract which is wholly or principally for the labour of the person. In this context, the Tribunal focused on the fact that the workers were free to delegate work or employ someone else to carry out some of the work.

In those circumstances it reviewed some old authority which held that if the contract leaves the contractor free to do work themself, or to employ other persons to carry it out, the contractual remuneration when paid is not a payment made wholly or at all for the labour of the relevant person to whom the payment is made. In that sense, the Tribunal confirmed the contract was on foot for the production of a result as opposed to principally for labour. These factors were pointed to as circumstances not falling within the provisions of section 12(3) of the SGA Act.

This decision is a reminder for employers to ensure there have strict processes in place for:

  1. determining when a contractual relationship will be entered into; and
  2. reviewing and ensuring that all appropriate taxation and costs associated with that contractual relationship are properly assessed. Getting the status of the worker wrong can be a costly mistake for the employer when it comes to employee and superannuation entitlements.

This publication does not deal with every important topic or change in law and is not intended to be relied upon as a substitute for legal or other advice that may be relevant to the reader's specific circumstances. If you have found this publication of interest and would like to know more or wish to obtain legal advice relevant to your circumstances please contact one of the named individuals listed.

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