When an individual is made redundant there can be 3 basic elements to the final payment he receives from his employer:
- Income under the employment contract (e.g. final salary payment, holiday pay, pay in lieu of notice and bonuses).
- The statutory redundancy payment.
- The ex gratia termination payment.
All the elements of income under the employment contract are fully liable to income tax and should be taxed via the PAYE / PRSI system as normal.
The statutory redundancy element is income tax free.
The ex gratia termination payment is a discretionary payment from the employer. The employer is not obliged to make this payment under the employment contract (otherwise it would be taxable under “1”). It may often be described under the generic term of “redundancy”. However, it is crucial to note that only the statutory redundancy amount is tax free and any amount in excess of the statutory redundancy should be looked at separately. It is however possible to secure tax free treatment in relation to part of, or all, of the ex gratia termination payment (subject to certain restrictions and life time limits).
The tax free element of the ex gratia termination payment is the higher of (a) the basic exemption, (b) the increased basic exemption or (c) the standard capital superannuation benefit (SCSB).
For example, the basic exemption is €10,160 plus €765 for each full year of service.
This is increased by another €10,000 where an individual is not a member of an occupational pension scheme of irrevocably gives up his right to receive a pension lump sum from such a scheme. This is known as the increased basic exemption.
The SCSB is a relatively complicated formula that will often yield a higher tax free sum in the case of an individual in employment for a long period of time at a relatively high salary.
An individual that is made redundant should always file an income tax return in respect of the year in which he / she was made redundant. In many cases a relatively significant income tax refund can be secured. This is primarily for the following reasons:
- The employer may not have allowed the employee the maximum tax free element on the ex gratia payment. The employee may therefore have paid too much income tax on the ex gratia termination payment.
- As the individual may well have left employment during the course of an income tax year he / she may have paid too much PAYE / PRSI on his / her ordinary salary.
If you wish to secure tax advice in relation to maximizing the tax efficiency of an upcoming ex gratia termination payment or you were made redundant recently and wish to discuss the possibility of securing an income tax refund please contact us.