In the second of two articles looking at redundancy, we consider what payments can be made tax free or at a reduced level of tax to employees as part of a termination package. 

(a)   The Basic Exemption

This exemption is €10,160 plus €765 for each complete year of service. The Basic Exemption can be restricted if the employee has already received a termination payment from the employer (or a related company) in the past.

(b)  Increased Basic Exemption

The above Basic Exemption can be increased by up to €10,000 in certain circumstances. The amount of the increase must take account of the fact that the employee may later receive a tax-free pension lump sum. The increased exemption of €10,000 has to be reduced by the present value of any future potential pension lump sum.

This increase is only available if the employee has not received a similar tax-free termination payment within the previous ten years. 

Advance approval must be obtained from the Revenue before the employer can apply this increased exemption.

(c)   Standard Capital Superannuating Benefit (“SCSB”)

The SCSB calculation can increase the tax free element calculated above. It is based on the employee’s length of service and average salary level and thus is usually relevant to well-paid and/or long-serving staff.

It is calculated as follows:

A x N/15 – L , where

A = average 12 month salary over last 36 months of employment

N = complete years of service

L = present value of any lump sum receivable via pension scheme.

The salary figure will include items like over-time, benefits in kind including shares, and bonuses. The ‘last 36 months’ might not be 36 consecutive months and could represent a longer period where, for example, there has been a break in service.

(d)  Foreign Service

An ex-gratia termination payment to an employee with significant periods of foreign service will qualify for full or partial exemption.

A full exemption is available if the employee’s foreign service represented (i) ¾ of the total period of service, (ii) all of the last ten years of service, or (iii) if the employee has more than twenty years of service, ½ of the total service including any ten of the last twenty years.

If the employee does not qualify for the full exemption, then a portion of the payment may still be exempt, based on the ratio of foreign to total service.
 

(e)  Payment in Lieu of Notice

A payment in lieu of notice can, in certain circumstances, form part of the ex-gratia payment and thus qualify for the above exemptions. Therefore the payment would be exempt if, for example, the total ex-gratia payment was less than Basic Exemption. However, where such a payment is required under the contract of employment, the Revenue do not regard this payment as being ‘ex-gratia’ and require it to be taxed in full.

(f)    Top Slicing Relief

All of the above Reliefs/Exemptions impact on the amount chargeable to tax.

Top Slicing Relief (“TSR”) operates by reducing the actual tax payable. Top Slicing Relief does not apply automatically and must be claimed by the employee. The purpose of TSR is to ensure that the taxable element (i.e. the gross payment less the exempt amount) of a payment made on termination is not taxed at a rate greater than the taxpayer's average rate of tax for the three income tax years prior to the tax year in which the termination payment refers.

The calculation of TSR is determined by the formula A - (P X T/I) where

A = the tax chargeable on the taxable portion of the lump sum

P= the taxable lump sum

T = the total amounts of income tax payable for the three years preceding the tax year to which the termination payment refers

I = the total amount of taxable income for the three years preceding the tax year to which the termination payment refers.

The TSR as calculated represents a reduction in the tax payable on any taxable element of the termination payment.

If you require any further guidance on any proposed termination payment, please contact us to guide you through an area that can be a minefield.