Redundancy – reduced rate of tax on genuine loss-of-job payments
Within limits, the tax on loss-of-job payments is lower than the normal tax rates. To determine the tax applicable, the payments for genuine redundancy and early retirement schemes need to be separated into tax categories:
Redundancy – Tax Free Component
There are automatic tax free amounts calculated according to a formula which specifies
- a base amount, to which is added
- an additional amount multiplied by years of completed service.
These formula amounts are indexed each year, as shown in the table below.
Example: An employee with 8 completed years of service is retrenched and receives a lump sum redundancy payment of $65,000 in January 2013.
The tax-free redundancy component (using 2012-13 values) is:
$8,806 + [8 x $4,404] = $44,038.
The employer should separately identify the tax-free components in the employee’s payment summary, which do not need to be shown in the employee’s income tax return.
The redundancy tax free base amount and additional amounts are as follows:
|Income Year||Base Amount||Additional Amount per|
completed year of service
Tax free amounts are adjusted annually each year in line with movements in the Average Weekly Ordinary Time Earnings (AWOTE).
Pre 1 July 1983 service component (is also tax free)
The amount of a genuine redundancy or early retirement scheme payment which is not tax free, must be apportioned between pre-1 July 1983 service and post-30 June 1983 service.
In most cases, this is done with a simple ratio of calendar days compared to the total period (or sum of separate periods) of service.
The pre-July 1983 segment is tax free.
Taxable components – Post 30 June 1983 service and everything else.
The taxable components of a genuine redundancy or early retirement scheme payment are simply those parts which are not tax free. The taxable amounts are classed as an ETP (Employment Termination Payment) and taxed according to the Life Benefit ETP taxing rules.
ETPs are concessionally taxed up to the cap amount, with the amount of the concession (i.e. the reduced tax rate) being based on the preservation age of the employee at 30 June.
ETP Concessional Caps
The ETP cap amount is indexed annually in line with AWOTE in increments of $5,000 (rounded down).
Taxable ETP amounts paid over the cap are taxed at 45% (47% from 1 July 2014) plus Medicare.
- for amounts under the cap for employees under preservation age (at 30 June) – the tax is limited to 30% plus Medicare
- for amounts under the cap for employees at or above preservation age (at 30 June) – the tax is limited to 15% plus Medicare
- death benefit amounts under the cap paid to a dependent are tax free
- for death benefit amounts under the cap paid to a non-dependent the tax is limited to 30% plus Medicare
When tax is limited to a fixed percentage on income, an offset (rebate) is calculated in your tax assessment to ensure the specified tax rate is preserved.
What is a Genuine Redundancy?
To be considered “genuine”, and be eligible for the specific tax concessions, a number of conditions must be met for genuine redundancy payments.
Redundancy results from the action of an employer, when the employer no longer requires particular work to be carried out. This is when:
- a job is no longer required to be done
- the decision to retrench is not based on normal staff turnover
- the basis of termination is not specific to an individual employee, it relates to a category or class of employees
Payments which generally qualify include payments in lieu of notice, time based calculation of severance or redundancy payments and lump sum gratuities.
What is an Early Retirement Payment?
To be eligible for concessional tax treatment, an early retirement scheme must be approved by the Tax Office, usually before implementation, or by exercise of discretion after the fact.
An acceptable early retirement scheme requires the following features:
- must be offered to all employees in an approved class
- must be due to a rationalisation or re-organisation of the employer’s operations
- payments under the scheme must be in addition to the ETP which would be paid on a voluntary retirement
- retirement must be “early” i.e. earlier than 65, or if it would have been sooner, the normal retirement age of 65
- payments must be “arms length” values
- there must be no arrangement for re-employment
- Approved early retirement schemes
- Tax Ruling 94/12 – “Approved early retirement scheme and bona fide redundancy payments”
- The ATO’s Employment Termination Payment calculator – online here
This page was last modified on 4 August 2015