The “R” word

In uncertain economic times, job redundancy is an unfortunate reality for many. After you cope with the news and your redundancy entitlements are added up, the numbers can look pretty good. However, knowing how long the redundancy money will last is vital, especially if you haven’t secured other work by the time you receive your final payout.

Seeking financial advice is imperative to making the most of a redundancy payment.

Types of redundancy payment

There are several components that can make up a redundancy payment: payments in lieu of notice; a ‘golden handshake’ (or severance payment); and unused sick leave or unused rostered days off.

But redundancy payments vary from employer to employer and from one industry to another. To confirm what entitlements may be available in the event of redundancy it’s important to check your employment contract or refer to your industrial award.

Tax-free vs taxable redundancy components

For people under age 65, a redundancy payment will have a tax-free component, which includes a base amount plus an extra amount for each completed year of service. Any amount of redundancy payment received that is over this threshold is taxed as an “eligible termination payment” (ETP).
If you worked for your employer prior to 1983, the amount of the redundancy payment relating to this time will also be tax-free.

The tax-free component is indexed each year, and for the 2009/10 financial year the base amount is $7,732. The amount available for each completed year of service is $3,867.

For employees aged 65 and over who receive a redundancy payment, the entire amount is taxed as an ETP.

The ETP component of the redundancy payment must be paid as a lump sum, unless transitional rules are met that allow the payment to be rolled over to a superannuation fund.

Transitional rules for taxable redundancy payments

Transitional arrangements apply for those made redundant up until 30 June 2012. These arrangements allow employees a choice to roll over a redundancy ETP to superannuation, instead of receiving it simply as a cash lump sum. Using this option, when it’s available, can save you significant amounts of tax.

Tax treatment of a redundancy ETP payment

If employees are 55 or older in the financial year they are made redundant, all amounts up to the ETP cap are taxed at 16.5%. Employees under 55 will be taxed at 31.5% up to the ETP cap.

For all employees, the balance in excess of the ETP cap is taxed at 46.5%. All of the tax rates include a Medicare levy of 1.5%.
The ETP cap is indexed every financial year, and is set at $150,000 in the 2009/10 financial year.

Case study

If Harry, aged 57, received a redundancy payment of $60,000 following eight years of service with his employer, it would comprise two components.

Tax-free component = $7,732 + ($3,867 x 8) = $38,668

Taxable (ETP) component = $60,000 - $38,668 = $21,332

As the entire ETP component is under the ETP cap of $150,000 for the 2009/10 financial year, this amount is taxed at 16.5% (or $3,520).

Harry’s redundancy payment after tax is therefore $56,480.

If you are facing redundancy, or know someone who is, it pays to be aware of the taxation implications of receiving a redundancy payment. Contact us today for advice.