Managing employee relocation costs in a tax effective manner

We have recently completed our annual FBT Roadshow and once again many of the complexities of FBT were revealed through questions raised in the sessions.

One common issue centred around employee relocation costs and how best to structure these costs from both the employee and the employer’s perspective.

In many cases it seems that the employer compensates the employee for a change in the location of employment with a one-off payment to cover any significant costs the employee will incur due to the relocation.

In these situations, to ensure the most tax effective outcome it is critical the payment is structured as a reimbursement as opposed to an allowance.

Subsection 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997) provides that assessable income of the employee includes ordinary income derived directly or indirectly from all sources during the income year. Ordinary income includes income from rendering personal services as well as property income and income from carrying on a business.

Section 6-10 of the ITAA 1997 provides that amounts that are not ordinary income are also included in assessable income. These are called statutory income and are included as assessable income under various provisions of both the Income Tax Assessment Act 193 (ITAA 1936) and ITAA 1997.

In the case of allowances, section 15-2 of the ITAA 1997 provides that the value of all allowances, gratuities, compensation, benefits etc. given or granted in respect of employment or services rendered are included in assessable income (that is, they are included as statutory income) of the recipient.

Taxation Ruling TR 92/15 considers the difference between an allowance and a reimbursement for the purposes of determining whether a payment is assessable income as a allowance under section 15-2 of the ITAA 1997, or whether that payment is a fringe benefit under the Fringe Benefits Tax Assessment Act 1986 (FBTAA 1986) and thus excluded from an employee’s assessable income by section 23L of the ITAA 1936.

Paragraph 2 of TR 92/15 states that a payment is an allowance where a person is paid a definite amount to cover an estimated expense. It is paid regardless of whether the recipient incurs the expense, and the recipient has the discretion whether to expend the allowance.

Paragraph 3 of TR 92/15 provides that a payment is a reimbursement when the recipient is compensated exactly, whether wholly or partly, for an expense they have already incurred. In general, the provider considers the expense to be its own and the recipient incurs the expenditure on behalf of the provider. A requirement that the recipient vouch expenses lends weight to a presumption that a payment is a reimbursement rather than an allowance. A requirement that the recipient refunds unexpended amounts to the employer adds further weight to that presumption.

Further, in paragraph 10 of TR 92/15 it is accepted that the definition of “reimburse” under subsection 136(1) of the FBTAA is wide enough to include payments made before expenses are incurred. However, whether payment is made before or after expenses are incurred by the recipient, it qualifies as a reimbursement when the provider considers the expense to be its own and the recipient incurs the expense on behalf of the provider.

The downside to an employee receiving relocation cost in the form of an allowance is that they are assessed on the allowance with no corresponding deduction allowed for the relocation costs incurred.

The downside to an employer paying an allowance is that the employer is required to withhold pay as you go withholding. Whilst unlikely superannuation could also be payable depending on the employee’s contractual entitlements. Other salary on-costs may also be payable (pay-roll tax and workers compensation).

Where relocation costs are reimbursed, FBT exemption should be available to the employer (assuming the costs being reimbursed are covered by one of relocation related exemption categories) and the employee is not assessed on the amount reimbursed. We refer to an FBT Q&A included in this month’s TaxEd update that examines the type of relocation costs for which FBT exemption is available – click here to view the Q&A.

Based on the above, reimbursement is the way to go from a taxation perspective.

This article provides a general summary of the subject covered as at the date it is published. It cannot be relied upon in relation to any specific instance. TaxEd Pty Ltd and any person connected with its production disclaim any liability in connection with any use. It is not intended to be, nor should it be relied upon as, a substitute for professional advice.