Tax paid on retrenchment

Ceasing employment can be a confusing and stressful event, particularly if you are leaving work as a result of retrenchment. Understanding the variety of lump sum payments and how these payments are taxed can help enormously as you plan your transition to new employment, or even retirement.

What payments can I expect to receive?
Depending on your situation, there are generally up to four lump sum payments that you may receive as part of your retrenchment package.

These lump sum payments are:
• unused annual leave
• unused long service leave
• the tax-free portion of your retrenchment payment
• the taxable portion of your retrenchment payment, otherwise known as an “Employment Termination Payment” (ETP).

Unused sick leave is also paid by some employers, but this is rare.
The following information only applies when you are leaving work as a result of redundancy. If you are leaving work as a result of resignation or retirement then different taxes may apply.

Unused annual leave
Your employer must pay you for the annual leave that you have accrued, but have not taken. The total amount of your unused annual leave paid to you as a lump sum is added to your taxable income in the financial year that you receive the payment. However, the tax that you pay on this amount is limited to a maximum of 30% plus Medicare levy. Your after-tax unused annual leave will be paid into your bank account and it cannot be directly rolled over into a superannuation fund.

Unused long service leave
Generally, to be paid a lump sum for unused long service leave, you need to have been employed with your current employer for at least ten years, however employers have a statutory obligation to pay pro-rated long service leave upon retrenchment after five years. If you are entitled to long service leave, but have not yet taken it, your employer must pay you a lump sum amount for this. The amount of tax you pay depends on when you started to accrue your long service leave as outlined in the following table.

Period of accrual	portion added to your taxable income	1 July 2007 after salary sacrificing $tax rate applied to this amount
Before 16th August 1978	0.05	Your marginal tax rate*
After 15th August 1978	100%	Maximum 30%*
* plus Medicare levy.

Your after-tax unused long service will be paid into your bank account and it cannot be directly rolled over into a superannuation fund.

How much of my redundancy payment will be tax-free?
If you are retrenched you will be entitled to receive a redundancy payment. The minimum amount of this payment is determined by law, but depending on the arrangements you have with your employer (for example a contract or agreement) you may receive more than the July 2007 explains legislative minimum. Your employer should let you know how your redundancy payment is calculated, however it generally depends how long you have worked for your employer.

Some, or even all, of your redundancy payment may be tax-free. The tax-free amount of your redundancy payment is determined by the formula:

Tax-free amt of redundancy payment = $7,020* + $3,511* for each completed year of service

* for the 2007/08 financial year and will be indexed each financial year

If your total redundancy payment is less than this, the entire payment is tax-free and is not included on your tax return. This amount cannot be directly rolled over into a superannuation fund.

How much of my redundancy payment will be taxable?
Any redundancy payment over your tax-free amount is taxable. This part of your redundancy is known as an employment termination payment (ETP). Your ETP must also be taken in cash and cannot be directly rolled over to superannuation. The amount of tax that you pay when you cash out your ETP depends on your age and what “components” make up your payment. The tax payable is summarised in the following tables, which are current from 1 July 2007.

If you are aged under preservation age*
Tax
Tax Free component (Pre-1 July 1983 service)	Tax free
Taxable component (Post-30 June 1983) up to $140,000	Taxed at a maximum rate of 30% plus Medicare levy.
Taxable component (Post-30 June 1983) over $140,000	Taxed at top marginal tax rate plus Medicare levy.
If you are aged over preservation age*
Tax
Tax Free component (Pre-1 July 1983 service)	Tax free
Taxable component (Post-30 June 1983) up to $140,000	Taxed at a maximum rate of 15% plus Medicare levy.
Taxable component (Post-30 June 1983) over $140,000	Taxed at at top marginal tax rate plus Medicare levy.

* Preservation age is the age at which retirees can access their super benefits generally on retirement.

If you were born:

before 1 July 1960, you can access your super when you are 55.
after 30 June 1960, your preservation age will be between 55 and 60.

The above tax rates apply to your ETP unless your employer determines that transitional rules apply to you, in which case more generous tax rates apply and you may choose to rollover your ETP to your superannuation fund which could result in you paying less tax. Please speak to your financial adviser to discuss how this may affect you.

For up to date amounts, please visit the Australian Taxation Office page Understanding employment termination payments.