When making redundancy payments, employers and payroll managers must understand what can be included in the tax-free portion known as Lump Sum D. Lump Sum D applies to the tax-free component of a genuine redundancy or early retirement payment within the limits set by the Australian Taxation Office (ATO).
Here’s a comprehensive guide to understanding what qualifies, including eligibility and calculating the tax-free threshold.
1. What Can Be Included in Lump Sum D?
Redundancy-Only Payments: A payment can only go into Lump Sum D if the employee is receiving it solely because of the redundancy. This means any additional payments the employee wouldn’t have received if they voluntarily resigned can be included as Lump Sum D, up to the ATO limit.
Determining Pay in Lieu of Notice: Pay in lieu of notice can sometimes be included in Lump Sum D if it’s a genuine redundancy, but only if the employee would likely have worked the notice period if they had resigned.
- If the employee would have worked the notice period on resignation: Pay in lieu of notice on redundancy may be included in Lump Sum D (tax-free).
- If they would have been paid in lieu upon resignation: The notice pay must remain a non-excluded ETP (code “O”), as it isn’t an additional payment due solely to redundancy.
Examples:
- Sales Teams: Sales employees are often asked to leave immediately upon resignation. Therefore, if they are made redundant, pay in lieu of notice should be reported as a non-excluded ETP (code “O”).
- Administration Staff: Administration employees are generally required to work out their notice period if they resign. Thus, if made redundant, their pay in lieu of notice may qualify for Lump Sum D, as it would be an additional payment.
2. Genuine Redundancy Payment – Tax-Free Portion
Tax-Free Limit Calculation: The tax-free limit for a genuine redundancy payment is based on the employee’s years of service. The limit consists of:
- A base amount of $12,524, plus
- An additional $6,264 per complete year of service.
Annual Adjustment: The ATO revises this limit each year, with updates taking effect on 1 July. Employers should confirm the current rate to ensure compliance.
Exceeding the Tax-Free Limit: If the redundancy payment exceeds this tax-free threshold, the surplus is classified as an excluded ETP (code “R”), while only the amount within the limit is tax-free.
3. Eligibility Based on Pension Age
Age at Time of Redundancy: To qualify for the tax-free component of a genuine redundancy, the employee’s age must be below the pension age on the date of redundancy.
- Under Pension Age: Employees below pension age are eligible for the tax-free concession in Lump Sum D.
- At or Above Pension Age: If the employee has reached the pension age, they are not eligible for the tax-free component. Elements which would otherwise have been included in lump sum D, will now be reported as an excluded ETP (code “R”).
Key Takeaways
- Only payments received solely due to redundancy can go into Lump Sum D.
- Pay in lieu of notice can be included in Lump Sum D only if the employee would likely have worked the notice period if they resigned.
- The genuine redundancy tax-free limit is recalculated annually and combines a base amount with an additional amount per year of service.
- Eligibility for Lump Sum D depends on the employee’s age, with the tax-free concession available only if they are below the pension age.
For more in-depth guidance, refer to the ATO’s genuine redundancy Tax Ruling TR 2009-2, which outlines these requirements in detail. Employers should review these guidelines carefully to ensure compliance with ATO standards on redundancy payments.