These are also called “golden handshakes” or ex-gratia lump sums. It is an area that can sometimes be forgotten by accountants when advising their clients and can be useful as part of the overall planning exercise when an employee or company director is ceasing employment. This could be at retirement, on a business sale or when passing on the business to the next generation. When you hear about an employee getting a “package” then that employee will get to know the various reliefs available to get as much tax-free cash as possible. The main point here is to understand the reliefs available as termination payments are tax free. They interact with pensions so we will give examples below how this looks. Firstly to the exemptions;
Basic Exemption
This is a set amount of €10,160 plus €765 for each complete year of service. Take Jorge an employee who started work with Tony Stork Enterprises, manufacturing margarine, on the 1st May 1980 and was due to retire on the 30th April 2020. The business owner called you and wanted to know if he could give Jorge a few bob to go with the gold plated carriage clock. The amount that could be given to him, as a tax free termination payment, is €39,995 which is €10,160 plus €765 multiplied by 39, being the number of complete years of service. On hearing the great news Jorge was blown away with the generosity of the business owner. However the accountant should have asked for more information. Read on to find out why.
Increased Basic Exemption
This is just the basic exemption with a potential for an additional €10,000 on top of it, so taking the previous example, then it would be possible to increase the termination payment to €49,995. However the increased basic interacts with the pension that Jorge has with the business. The additional €10,000 is reduced euro for euro by the current value of Jorge’s tax-free lump sum from the pension he has with his employment. As it is close to retirement this figure should be known and once the tax-free pension lump sum is more than €10,000 then the increased basic has no benefit. However, if Jorge has no pension with his employment or he has a private pension that he contributes outside of his employment then the additional €10,000 would work for him. Provided Tony was happy to pay of course!
It is also possible for an employee to waive their right to receive a tax-free lump sum from their pension and should they do that then the additional €10,000 would be available to claim. Assume Jorge had a pension worth €100,000 with Stork Enterprises and he could take €25,000 as a tax free lump sum from the pension. He could waive his right to receive the tax-free pension lump-sum and in that instance would be able to claim the increased basic payment. It wouldn’t make much sense to do it but the option would be available.
Previously with the Increased Basic the employer or their accountant had to apply to Revenue to get pre-approval from them to apply it. This is no longer required. One can only get the €10,000 provided you didn’t get it in the last 10 years so the onus is on the employer to ensure this wasn’t claimed by the employee in that period.
Standard Capital Superannuation Benefit [SCSB]
This is the third exemption that is available and can suit those on higher pay with longer service. Typically those in this category would have larger pension pots so again the interaction with the company pension scheme comes into play. To do this calculation Tony’s advisor will need to know a bit more information about Jorge’s pay. He needs to find out what Jorge’s average pay was for the last 36 month prior to the date of cessation. As he is due to leave on the 30th April this period will run from the 1st May 2017 to the 30th April 2020 so the advisor will need to get the P60’s for 2017 & 2018, the employment summary detail for 2019 and the last payslip to the end of April 2020.
Jorge was on a good number as head of product development and his gross earnings, before pension deductions for the last few years were as follows;
| € | ||
| 8 months ended | 31 December 2017 | 54,000 |
| Year ended | 31 December 2018 | 90,000 |
| Year ended | 31 December 2019 | 95,000 |
| 4 months ended | Period to 30th April 2020 | 25,000 |
| Total | 264,000 |
To get the average we divide the total of €264,000 by 3 which is €88,000. This is put into a formula [bear with us] by multiplying the average by the number of complete years’ service [39] and dividing that by 15. From that figure we deduct the tax free lump sum that Jorge is entitled to from the pension scheme.
€88,000 x 39 [complete years of service] = €3,432,000 divided by 15 = €229,000 minus €25,000 [tax free lump sum from the pension] = €204,000
The maximum tax-free termination payment anyone can get is €200,000 so in the above scenario Jorge could get up to €200,000 tax free and the €4,000 above that would be taxed as normal pay. It wouldn’t make sense for Jorge to waive the tax-free lump sum from his pension as he could still only get a max of €200,000 as a termination payment.
Some Key Points
The tax free termination payment is separate to the tax free lump sum from a pension payment so it is possible to benefit from both.
It is the employer that has to get these calculations right so if the employer pays out termination payments tax-free incorrectly then Revenue will come after the employer and not the employee.
Be careful on what your employment contract states. If there is a clause in there to get a termination payment on ceasing employment then that would be taxable as normal salary and none of the exemptions above would be available.
If an employee was given a car, van or other asset, instead of money, then the value of the asset at the date of cessation would be taken into account for the exemptions.
The exemptions wouldn’t be available in a “fire and re-hire” scenario but that would depend on the circumstances of the case.
Part-time employees and those job sharing will have the same rights and entitlements as full-time employees so their complete years of service are looked at and there is no deduction for their part-time nature.
Employees working for a number of group companies can have the total service within the group as a qualifying period and the payment could be made from a different member of the group, to the one currently employed with.
Summary
The exemptions are turning out to be fantastic news for Jorge and a very expensive phone call for Tony! Tony is unsure if he would pay such an exorbitant figure as Stork Enterprises only had one product. However Jorge felt he had done a lot to improve that product over the years such as putting a recipe on the side of the packet and introducing more environmentally suitable packaging to name but a few innovative ideas.
There is good scope for planning here and should be considered when selling or transferring a business. There is a very detailed Revenue document on this so please find the link attached.
As always talk to your accountant re the above and if you feel you would benefit from a chat with one of the CF team please contact Deirdre on 051 396703
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