The Full Federal Court has dismissed a taxpayer’s appeal and held that the full amount of accrued and unaccrued bonus entitlements of $11.6m that were instead paid into an executive share trust on the taxpayer’s behalf had been derived by the taxpayer as ordinary income.
The taxpayer was the managing director and CEO of a company, Primelife Corporation Ltd (Primelife).
- His employment contract provided for cash bonuses to be paid that fell into 3 categories: (i) those that had accrued and were payable; (ii) those for which some eligibility conditions had not been satisfied; and (iii) those that had not yet accrued in any sense.
- In November 2001, his employment arrangements were changed so that his accrued, emerging and future bonus entitlements of $11.6m were extinguished and instead were paid into an executive share trust established on his behalf and in which he subsequently acquired all the units (by way of a loan from the trust under a round-robin arrangement).
- The $11.6m was used to buy 5 million shares in the company and these had a minimum “vesting period” of 12 months before the taxpayer, as the sole participating executive in the scheme, could cash in his units in the trust.
- As a result, the tax would be deferred until final disposal of the underlying shares.
However, the Commissioner assessed the $11.6m as assessable income of the managing director as ordinary or statutory income and imposed 50% administrative shortfall penalties.
The taxpayer appealed and the Federal Court dismissed his appeal (in the decision in Sent v FCT [2012] FCA 382). He then appealed to the Full Federal Court.
The Full Federal Court said that the taxpayer “was content to have Primelife pay his nominee (the Trustee) the money in substitution for his absolute entitlement to the issue of the shares. But the whole purpose of the arrangements was to remunerate the appellant for his services immediately following upon shareholder approval of the terms of the Share Issue Deed.”
It followed in the Court’s view that the taxpayer derived the $11.6m as ordinary income within the meaning of s 6-5(4) of the ITAA 1997 as soon as Primelife paid it to the Trustee as his nominee. The Court considered that the primary judge did not err when he held that the whole of the $11.6m payment was assessable income of the taxpayer in the year of income.
(Sent v FCT [2012] FCAFC 187, Full Federal Court, Emmett, Edmonds and Rares JJ, 19 December 2012.)
[FJM Comment: This is all very well, but what then stops ‘salary sacrificing’ being assessable to the employee? This is now probably catered for by the statutory exemption for fringe benefits and exempt fringe benefits, but before FBT, employer contributions to a super fund only just escaped being assessed to the employee (under Constable’s case), by virtue of s19 of the 1936 Act, as being applied as the employee directed or on his behalf.]
[LTN 1, 3/1/13]