TERMINATION PAYMENTS - 16.02.2015

Termination payment trouble

Closing down

When you sell or close down a business and it means making one or more workers redundant, they might be entitled to statutory redundancy payments. The employees aren’t likely to be happy, but they will at least benefit from a tax break which means that what you pay them will be tax free up to a maximum of £30,000. But where does your company stand for tax purposes?

PAYE tax and NI

Redundancy payments are entirely outside the scope of NI for both you and your employees; likewise tax up to the £30,000 limit. Plus, subject to limits and conditions, your company can deduct the cost of redundancy from its income for tax purposes (see The next step ). This can be useful even where your company is ceasing trade because a loss in its final year can be carried back to reduce corporation tax (CT) bills of the three previous years.

Getting your money out

Redundancy isn’t an obvious tax-saving plan, but for director shareholders it can be just that. When you sell or wind up your company, the usual method of getting your money out is to take it as capital, i.e. by selling your shares to someone who wants to buy the business, or by liquidating the company and distributing its assets. Either way you’ll pay between 10% and 28% capital gains tax (CGT) on the difference between what you receive and what you paid for your shares. Therefore, a tax free redundancy payment reduces the company’s CT bill meaning there’s more money left for you. The trouble is a director’s right to a statutory redundancy payment isn’t always clear cut.

Redundancy pay

Employees’ redundancy payments are linked to their earnings and the amount of time they’ve worked for your company. But a director’s role is as an officer of the company. Consequently, their remuneration packages can be quite different from that of an employee. For example, they might be paid a low salary and receive most of their income in the form of dividends. These factors affect their right to statutory redundancy pay. In some circumstances director shareholders might not be entitled to statutory redundancy payments at all, which means they would miss out on the £30,000 tax and NI-free amount.

Tip. To avoid doubt over the right to a statutory redundancy payment, make it a contractual arrangement. Include a clause in your employment/service agreement with your company that links the redundancy amount to your overall income, i.e. salary, benefits and dividends.

Separate deals

If you’re selling your business, never include provisos in the sale contract that link your right to a redundancy payment to the sale. This will result in HMRC arguing that your redundancy pay is actually part of the payment you’re receiving for selling the company and so it would be subject to CGT.

For the limits and conditions, visit http://tipsandadvice-tax.co.uk/download (TX 15.10.05).