The concept of ‘salary sacrifice’, or ‘salary packaging’, has been a part of modern remuneration arrangements for many years now. In Taxation Ruling TR 2001/10 (issued way back in 2001) – the ATO outlines what it considers is an ‘effective’ salary sacrifice arrangement. In this article, we explore a recent case that involved a far from effective salary packaging arrangement. In fact… it wasn’t a salary packaging arrangement at all! Let’s start with the basics, though.
What makes an arrangement an effective salary sacrifice arrangement
An effective salary sacrifice arrangement involves the employee agreeing to receive part of his or her total amount of remuneration as benefits before the employee has earned the entitlement to receive that amount as salary or wages.
Personal services remuneration arrangements usually provide that the employee is entitled to be paid salary or wages at fixed intervals when he or she has performed services for the employer over a fixed period. To the extent that services for that period have been performed, everything has been done by the employee in earning the entitlement to salary or wages.
To ensure an effective salary sacrifice arrangement is in place, we strongly suggest appropriate documentation be entered into between the parties. This documentation should set out the detail of the arrangement and also helps to ensure that benefits are provided from prospective salary as opposed to salary that has already been earned (i.e. an ineffective salary sacrifice arrangement).
So what could possibly go wrong?
A lack of paperwork and detail was ultimately a critical factor in the recent Administrative Appeals Tribunal (‘the Tribunal’) decision in Hartley v Federal Commissioner of Taxation [2021] AATA 2622 (‘Hartley’s case’).
In Hartley’s case, the taxpayer was the chief executive officer of Choice Australia Management Ltd (‘the company’) during the 2008 – 2014 income years (‘the relevant years’).
His remuneration package included a gross salary of $110,000 per annum, a fully maintained motor vehicle and a fully maintained mobile phone. While employed by the company the taxpayer lived in a unit he owned in Cairns, for which he made mortgage repayments and paid all general outgoings.
The taxpayer’s employment agreement permitted salary packaging but there was nothing to suggest anything was done to that effect. In particular, there was no term of the employment agreement that created an obligation for the company to pay or reimburse the taxpayer for expenses relevant to his Cairns property.
The taxpayer had his fortnightly salary paid into his bank account by the company and he lodged his income tax returns in each of the relevant years on the basis of those amounts being paid to him (and having been treated by the company) as salary or wages. He subsequently objected to the Commissioner’s assessments on the basis that an employer ‘oversight’ resulted in a remote area housing benefit and expense payment benefit being included in his gross salary from 2008 to 2014 and that he should be permitted to amend his tax returns for those years to correct that oversight.
The thrust of the taxpayer’s objection was that:
- the mortgage payments over his property were remote area housing benefits under section 58ZC of the Fringe Benefits Tax Assessment Act 1986 (‘FBT Act’), and
- that the interest payments on his mortgage, body corporate fees, council rates, electricity and water rates in relation to his unit were expense payment benefits eligible for 50% reduction under section 60 of the FBT Act
The Tribunal found no trouble in concluding that the payments were not remote area housing benefits or expense payment benefits. The payments made to the taxpayer were payments of salary and therefore income. There was no ‘oversight’ and, in any case, there was no entitlement referred to in the employment agreement concerning remote area housing benefits or expense payment benefits.
The Tribunal then went on to consider the technical arguments raised by the taxpayer.
The Tribunal quite correctly concluded that the repayments to the taxpayer’s mortgage could not be a remote area housing benefit due to the absence of any lease or licence to occupy or use the property being given to the taxpayer by the company. This is because the taxpayer owned and therefore had control over the property.
The Tribunal also considered and concluded that none of the amounts that were said to be expense payment fringe benefits could be reduced pursuant to section 60 as none of the criteria in section 60 were satisfied as follows:
- sub-section 60(1) is not relevant as there was no loan from the company to the taxpayer. The existence of a loan from employer to employee is an essential component of s.60(1).
- sub-section 60(2) does not apply because the company had no obligation to pay the taxpayer’s interest repayments or to reimburse him for them. There was no document that evidenced any suggestion that the company considered the payments that it was making at the time were anything other than the payment of salary.
- sub-section 60(2A) had no application as there was no rent paid in relation to the taxpayer’s property.
- sub-section 60(3) cannot be satisfied because the definition of ‘property fringe benefit’ in that sub-section requires that property be provided by one person to another. The property here was not provided to the taxpayer because it was his own property.
- sub-section 60(4) requires there to be an ‘expense payment fringe benefit’ which is not relevant because the company had no obligation to pay the taxpayer’s expenses or to reimburse him for them.
- sub-section 60(5) could not apply as there was no suggestion that there was an option fee relevant to the matter, and
- sub-sections 60(6) and 60(7) had no application because there was no suggestion that there was any amount paid by the company for the purchase of the property.
The bottom line here is that the payments made by the company to the taxpayer over relevant years represented a ‘vanilla’ payment of salary.
There was no documentation indicating or evidencing support for his claims that the company had paid the amounts to him as an oversight and they should have been treated as fringe benefits.
Where a matter such as this heads to a Court or Tribunal, the onus of proof falls squarely on the taxpayer’s shoulders.
In this case, the lack of contemporaneous salary sacrifice paperwork proved fatal to the taxpayers chances.
And a final reminder …
We have previously highlighted other problems that may render a purported salary sacrifice arrangement less than effective. In particular have a look at our article in the December 2020 TaxEd monthly update which deals with an issue that is far more common but equally problematic – click here to have a read.