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‘I’ve been taxed on redundancy pay despite it being under the £30k limit. Why?’

Paloma Kubiak
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Paloma Kubiak

Employees are likely to face redundancy in the coming months as the coronavirus pandemic continues. Here’s what you need to know about the tax implications of your redundancy package.

Employees with two years’ service are entitled to a statutory redundancy payment. This depends on your age, your weekly earnings (normal earnings not furlough pay) and length of service.

It amounts to 0.5 week’s pay for each full year you’re under 22, one week’s pay for each full year you’re 22+ and 1.5 weeks’ pay for each full year you’re aged 41+.

But the statutory pay is capped at 20 years and £538 per week. See the government’s redundancy calculator to work out how much statutory pay you’ll receive.

However, employers could offer staff enhanced or contractual redundancy pay which exceeds the statutory minimum.

Whether statutory or enhanced, this element of redundancy pay is free of tax and National Insurance Contributions (NICs) up to £30,000.

Payments above the £30,000 threshold are treated as income and are subject to tax at your marginal rate but you won’t pay NICs on the excess amount. However, since the start of the year, employers have been required to pay 13.8% NICs on the excess amount.

While it seems straightforward that the redundancy pay is free of tax and NICs as long as it’s under £30,000, many employees may question why these have actually been applied to their package.

Stephen Moore, partner and head of employment at Ashfords, explains: “There are a number of other payments an employee could receive on termination of their employment that are subject to tax, even if the amount is below £30,000.

“If an employee doesn’t work their notice period and instead is paid in lieu of notice (PILON), this is subject to tax and NICs. Since April 2018 this applies to all payments in lieu of notice, regardless of whether the employer’s right to make this payment is contractual or non-contractual.

“Unpaid wages, bonuses and holiday pay are subject to the same deductions. These principles on what is subject to taxation also apply if redundancy payments are negotiated through a settlement agreement.”

Can I reduce tax on my total redundancy pay?

Moore says a tax-efficient approach could be for an employer to make a redundancy payment directly into an employee’s pension, but the employer would need to agree to this arrangement.

Alternatively, the employee could pay the net amount into their pension themselves as a personal contribution.

Another point to note is that employers can require employees to take their holiday entitlement during their notice period providing that the employer gives the requisite amount of notice – twice the amount of days as the number of days required to be taken as holiday.