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I have been underpaid for a period of over two years. If I am paid the back-pay that is owed to me as a lump sum, is that considered part of my income for the current tax year?

If so, that means it would be taxed at a higher rate, as my correct salary should be just under the upper limit of an income tax bracket.

If it had been paid at the correct time it would have been taxed at the rate of the income tax bracket I am currently in.

If there is any choice, which would be the most tax efficient way for me to receive the owed back-pay?

This is in Australia.

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Your lump sum payment will be a Lump Sum Payment E which should be included as income at Item 24 of your Tax Return for the year it is paid. Check when you get your Payment Summary from your employer that it is listed as a Lump Sum Payment E.

However, you should get a tax offset calculated by the ATO to reduce any additional tax you pay for being on a higher income due to the lump sum payment.

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Income tax is based upon when it is paid to you, not when you were entitled to it. So, it will be income for the current tax year.

Perhaps you can negotiate the additional tax liability with your employer, or get them to pay some of the shortfall in the next financial year. They may also be able to provide you with an alternative FBT-exempt minor benefit: https://www.ato.gov.au/General/Fringe-benefits-tax-(FBT)/FBT-exemptions-and-concessions/Minor-benefits-exemption/

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