Full Federal Court dismisses taxpayer’s appeal on taxation of incentive scheme benefits

In Blank v Commissioner of Taxation [2015] FCAFC 154, the Full Federal Court dismissed the taxpayer’s appeal from the earlier decisions of Justice Edmonds in Blank v Commissioner of Taxation [2014] FCA 87 (the primary decision) and in Blank v Commissioner of Taxation (No 2) [2014] FCA 517 (the foreign service decision).

In summary, at the time of termination of employment, the taxpayer became entitled to receive amounts under his employer’s ‘profit participation plan’ being instalments of a lump sum as determined under the plan. The plan under which the taxpayer received the payments was that entered into 2005, there being earlier plans that applied to the taxpayer (the majority of the Full Federal Court considered that there were no material differences in the earlier plans), each of which was superseded by a later plan.

The taxpayer treated the amounts received as the proceeds from disposal of Genussscheines (GS) provided to the taxpayer under the plan during the period of his service with the Glencore International Group of companies in Australia and overseas. A GS is a profit sharing certificate issued by a company under its articles of association pursuant to Article 657 of the Swiss Code of Obligations.

In treating the amounts received as being instalments of the amount payable on disposal of GS, the taxpayer did not include the amounts received as assessable income in the relevant returns lodged with the Commissioner, but instead, returned an amount as a capital gain under the capital gains tax (CGT) rules. Since according to the taxpayer, some of the GS were provided to the taxpayer whilst he was a nonresident of Australia, the taxpayer adopted as the CGT cost of these GS the market value of the GS at the time that the taxpayer became a resident.

The Commissioner disagreed with the taxpayer’s position and issued amended assessments to the taxpayer for the 2007 to 2010 tax years on the basis that the amounts were assessable when received as eligible termination payments (ETPs), or alternatively, as ordinary income as a reward for services.

The taxpayer’s objections against the amended assessments were disallowed by the Commissioner, and the taxpayer appealed these adverse objection decisions to the Federal Court.

In defending the decisions to disallow the objections, the Commissioner for the first time argued as an alternative to the basis upon which he had assessed the taxpayer, that the amounts received were assessable as dividends or as nonshare dividends under section 44 of the Income Tax Assessment Act 1936 (ITAA 1936).

At first instance, in the primary decision, Justice Edmonds held that under the plan which was implemented in 2005, the taxpayer did not own any GS at the time of termination, and that the amounts received were simply the reward for services provided by the taxpayer. On this basis, the amounts were ordinary income when received. In relation to this conclusion, his Honour drew the distinction between the contractual right to receive the amounts (which was not the reward for service) from the receipt of the money itself (which was the reward for service). Since the amounts received were ordinary income, the amounts were not assessable as ETPs.

His Honour also concluded that the amounts were not assessable under section 44 of the ITAA 1936

The foreign service decision dealt with the taxpayer’s interlocutory application, filed before the publishing of final orders in respect of the primary decision, that the taxpayer be granted leave to re-open his case to enable him to make submissions concerning the application of section 23AG of the ITAA 1936. The effect of the submission that the taxpayer sought to make was that some part of the amount received qualified as ‘foreign earnings derived by [the taxpayer] from ... foreign service’, and was exempt from tax: subsection 23AG(1).

After receiving submissions from the parties with respect to the application, Justice Edmonds refused the taxpayer’s application. The basis of the decision was that the taxpayer’s argument that subsection 23AG(1) applied was without merit. In particular his Honour expressed the view that the provision required the earnings in question to be exclusively from ‘foreign service’, and that it was clear that in this case, it was not possible to identify any portion of the amount as being derived exclusively from ‘foreign service’ “because the amount was not calculated by reference to days of service”.

The taxpayer appealed these two first instance decisions to the Full Federal Court.

With respect to the primary decision, the Court, by majority, dismissed the taxpayer’s appeal. In dissent, Justice Pagone held that the amounts received were not ordinary income. In this respect, his Honour was of the view that the amount received by the taxpayer was for the disposal by the taxpayer of the bundle of rights that had accrued to the taxpayer under the plan including, (and contrary to the view of Justice Edmonds at first instance), GS still owned by the taxpayer at the time of termination. Justice Pagone then dealt with the CGT implications of the disposal of the rights including the basis for determining the market value of the rights when the taxpayer became a resident of Australia.

All members of the Full Court agreed with Justice Edmonds decision to refuse leave to re-open the case to argue that subsection 23AG(1) applied.