The Autumn Statement contained more tweaks than sweeping changes but the Chancellor’s ‘tweak’ to tax on redundancy payments will hit both employees and employers, as Simon Littlejohns, Head of Tax at Friend Partnership Limited explains.
Changes announced in the Autumn Statement mean that some employees could lose almost a third of their redundancy payment in tax – and it will be lower paid workers who will be most affected.
From April 2018, all redundancy payments made ‘in lieu of notice’ will be subject to tax and National Insurance, and these payments will be added to the employee’s earnings for the year.
It’s a subtle change but one that will disproportionately affect workers on lower rates of tax, who may suddenly find themselves pushed into a higher band.
The payment in lieu of notice will be taxed at the highest rate of income tax that the employee pays, and National insurance (NI) will be charged at 12% on earnings up to £45,000 or 2% for earnings above £45,000.
The changes will take effect from April 2018.
Although statutory redundancy pay will not be affected (statutory payments up to £30,000 will remain free of income tax and NI.), the tax on payments in lieu of notice will see a dramatic fall in some employees’ final payments.
The Times on Saturday 3 December had a good worked example, which we expand upon below:
Ms Harris is made redundant after 15 years of service.
The company puts her on garden leave and she is not allowed to work for a competitor for six months. Ms Harris and her employer negotiate a redundancy payment of £37,000, made up of:
- £30,000 payment in lieu of notice
- £2,000 holiday pay, plus
- £5,000 statutory redundancy payment
The statutory element is tax-free; Ms Harris pays income tax on the balance of her payment above £30,000.
This gives Ms Harris a ‘take home’ redundancy payment of £34,160.
Taking the same example, but from April 2018, the statutory element remains tax free, however she is now liable to pay income tax and National Insurance on the whole of the payment in lieu of notice.
This would reduce Ms Harris’ ‘take home’ redundancy payment to just £23,560.
The taxation of payments in lieu of notice, together with the introduction of National Insurance contributions on redundancy payments, will mean that lower paid workers will have far less of a redundancy cushion come April 2018.
The changes will also impact employers, as there will be an employers’ National Insurance contribution on redundancy payments. Employers will have to pay NI at 13.8% on any redundancy payment over £30,000.
Essentially, HMRC is seeking to align income tax and National Insurance, so that NI is paid on any payments that are already subject to income tax.
It’s a stealthy change and arguably not a headline grabber – until it begins to hit the employers’ payroll costs and employees’ back pockets come April 2018.
Employers can mitigate the effect in the short term by making any planned job cuts before April 2018 but, for employees, there seems to be little room for manoeuvre.
For help or advice on this or any other tax matter for you or your business, contact Simon Littlejohns at Friend Partnership Limited on 0121 633 2000 or click here to send an email.