Restraints of Trade – Capital Gains Tax Concessions

Restraint of trade clauses within employment contracts occurs when an employer attempts to impose restrictions to engage in certain activities. The premise of these clauses intends to protect the employer’s business interests. For example restrictions on working for competitors, solicit or maintain clients of employer’s business, geographical restraints to operate a business within a certain radius.

Case Study

Heather established a company, Healthier Pty Ltd (Healthier), where she was working as an employee and earning a wage. Healthier is engaged to provide medical services to Sam Stone Pty Ltd (Stone). Under this agreement, Healthier is to be paid a lump sum of $150,000 by Stone under the “Further Provisions” agreement. If both parties agree, the ‘further provision’ established a restraint of trade on Healthier employees with Stone.

Elements of this scenario can be common within the medical services profession. Based on the information provided there are two areas for consideration:

• Restraints of trade per ‘further provision’ clause
• Capital Gains Tax implications

To examine the case study further, the “Further Provisions” agreement stated the Lump Sum payable by Stone Pty Ltd to Healthier Pty Ltd was for:

• the obligation under Clause 3.2; and
• the restraints imposed under Clause 4.1

Clause 3.2 requires Healthier to render medical services from the secured Premises for at least 5 years from the Commencement Date of employment. Healthier agrees that it will conduct its incorporated medical practice, and procure Heather to render medical services, only from the Premises during that period. This requirement extends the restraint in Clause 4.1.

Clause 4.1 states that given:

• Healthier is to conduct its incorporated medical practice (through Heather) at the Premises, andHeather is to render medical services from the Premises,

The parties agree that as a reasonable protection for the business of Healthier, each of the Healthier and the Doctor must not during the restraint period render medical services (or in the case of the Healthier, conduct an incorporated medical practice) at any place within a radius of 10 kilometres of the Premises.

Clause 4.2 stipulates the restraining period from the commencement date until the later of:

• The 5^th anniversary of the Commencement Date; or
• The 3^rd anniversary of the date on which the Practitioner Contract terminates for whatever reason.

Application to circumstances

Restraints of Trade

The ‘Further Provisions’ in clause above, restrict Healthier employees (in this case Heather) from providing medical services within a 10 kilometre radius. The restrictions of services last for 5 years of the Commencement Date or for 3 years if the contract is terminated.

Capital Gains Tax

We assume that Healthier Pty Ltd (Healthier) meets the small business tax concessions including annual turnover for the financial year of less than $2 million and Heather has not previously had any small business rollover concessions and owns 100% of shares in Healthier Pty Ltd.

Healthier should satisfy the threshold conditions for the small business CGT concession to apply and also should qualify for the small business 50% CGT discount.

After applying the small business 50% CGT discount, 50% of the original capital gain remains.

Heather is a significant individual in Healthier as she owns 100% of its shares.

Provided Stone Pty Ltd pays the amount to Heather within 7 days of choosing to use disregard the capital gain, Healthier should be eligible for the small business retirement exemption for the remaining 50% of the gain. This part of the disregarded gain can also be paid to a complying superannuation fund without affecting your annual contribution caps.

The total capital gain should be $275,000.

The threshold requirements for the small business 50% CGT discount should have been met and should enable a 50% reduction in the capital gain (50% of $275,000 = $137,500).

The balance of the capital gain ($137,500) should be able to be disregarded under the small business retirement concession.

Linda Head can contribute $137,500 to a complying superannuation fund.