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Termination Payment categories taxed differently

What termination payment categories might be received on ceasing employment?

Employment termination payment categories can usually be grouped as one or more, of: redundancy payment; accrued leave entitlements; and ex-gratia payments. Each will be treated according to the relevant taxation rules.

There are special (concessional) taxation provisions that apply to an eligible ’employment termination payment’ received consequent to dismissal from employment under specified circumstances. What constitutes and eligible termination payment in this context is described further, below. Since around 2012, the whole process has changed: unfortunately, it is somewhat more complex than was the case prior to that change.

What payments might I receive when my employment is terminated?

When an employee leaves their job under circumstances that satisfy the definition of “bona-fide redundancy” they will generally receive additional payments to those that would normally apply if they had resigned or been dismissed for disciplinary reasons. Portion of these additional payments, referred to under the taxation laws as employment termination payments’, may be taxed concessionally.

Approved early retirement schemes and ‘bona fide’ redundancy schemes need to meet certain strict criteria. A genuine redundancy payment is a payment made to an employee who is dismissed (or has been made redundant involuntarily) because the job they were doing has been abolished; or they have accepted an early retirement under an approved scheme. The employer will advise their employees as to their respective eligibility for the concessional treatment.

…and which termination payment amounts are eligible for concessional treatment?

Amounts you may receive include:

  • Payment under relevant agreement, in lieu of notice (include in redundancy concessional calculation)
  • Severance payment of a number of weeks’ pay for each year of service (include in redundancy concessional calculation)
  • A gratuity or ‘golden handshake’ (include in redundancy concessional calculation)
  • Outstanding wages or salary (and related allowances and benefits) due to you when you leave (not treated concessionally)
  • Lump sum payments of unused annual leave or leave loading paid on termination of employment (see rates applicable in Table below)
  • Lump sum payments of unused long service leave paid on termination of employment under a formal arrangement (see rates applicable in Table below); and
  • Accumulated superannuation paid in lieu (in eligible circumstances) – (not treated concessionally)

How Annual Leave and Long Service Leave are taxed?

The following table displays the taxation applicable to Annual and Long Service Leave should the payment be made due to approved early retirement schemes and ‘bona fide’ redundancy schemes.

Amount assessable as income Tax rate*
Annual Leave 100% 30% max
Long Service Leave
Pre 16/08/1978 5% Marginal rate of tax
Post 16/08/1978 100% 30% max

* plus Medicare levy

How are payments for Bona-Fide Redundancy and Approved Early Retirement Schemes taxed?

A part of the redundancy payment is tax-free. This amount depends on the length of service with your employer, and is calculated as $7,732 plus an additional $3,867 (for 2009/10 and indexed to AWOTE each 1 July) for each full year of completed service.

NOTE: For the most recent update on the relevant amounts, refer to the ATO website table – Table 19: Genuine redundancy and early retirement scheme payment limits.] The tax-free amount of a bona fide redundancy or approved early retirement scheme is not an ETP and must be taken as cash.

For example, if Patrick had worked for his employer for 11 years and 3 months up to July 2009, he would have completed 11 full years of service and would therefore be entitled to a tax free redundancy payment of up to: $7,732 + ($3,867 x 11) = $50,269. Note: a life benefit cap applies to the amount of such payments that can be taxed concessionally. For the 2015-16 taxation year, that amount is $195,000. This amount is indexed and only changes when the indexation increases the cap amount by $5,000 or more: it increments in $5,000 lots.

There is also a whole of income cap to apply – and then the taxation of the ETP (Employment Termination Payment) is calculated according to individual circumstances: reference the information in this page on the ATO website.

Employment Termination Payments can no longer be rolled to super and must be taken as a lump sum.

What should you do?

If you are being terminated from employment under an arrangement that is accompanied by termination payment categories mentioned herein as having concessional benefits described above, you should seek financial advice from a financial planner so as to take advantage of the tax and wealth accumulation benefits that can flow if properly managed.

To arrange an appointment with Continuum Financial Planners to discuss your situation contact us using our website facility; or phone our office directly – on 07-34213456.

This article was originally posted in December 2009: it has been updated for current information applicable as at August 2019; and refreshed in December 2020..
Acknowledgement: we substantially utilised material provided by Securitor in the original drafting of this article: the updated revision has drawn substantially on material published on the ATO website, but presented in a more user friendly summation.

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