Tax on retirement bonus
QUESTION: I run a small business in Newry and the store manager is retiring at the end of June after working for the business for 30 years. Can I make any tax-free payments to him or are there any other tax free benefits I can give him?
ANSWER: If an employer wishes to pay a retirement bonus tax free then, unfortunately, they cannot as any cash amount payable to a retiree would be treated as earnings within the tax legislation and therefore would be subject to PAYE and national insurance, and processed through the payroll in usual way.
This is because it is their choice to retire, and no tax-free provision is in place to pay them a retirement bonus tax free as you would pay a tax-free redundancy amount of £30,000.
One option available to the business for a retiree reward would be for the employer to buy the employee a gift upon retirement. There are tax rules which set out the requirements for a retiree to receive such an award tax free from their employer.
To receive a gift tax free, the following conditions would need to be met:
• The gift must be something other than cash, a cash voucher, a credit token or shares, except shares in a company (or group of companies) that employs the individual receiving the award;
• The employee must have at least 20 years of continuous service with the same employer;
• A long service award cannot have been received by the employee from that employer in the previous 10 years; and
• The value of the award must not exceed £50 for each year of service.
The employee in this case has 30 years of service with their employer so if no other long service award has been received within the last 10 years, then the employer would be able to buy the employee a gift to recognise their long service tax free up to the value of £1,500 (30 x £50).
If a long service award did not meet the conditions of the exemption, then the value of the award would be a benefit in kind to the employee and would need to be reported on a P11D and a Class 1A National Insurance contribution (NIC) liability would arise.
If the conditions of the award were met but the value of the award was above £50 per year of service, then the excess on the value of the award above £50 per year of service would need to be reported on a P11D and Class 1A NIC paid as appropriate.
It may be worth offering the retiring employee the option that the bonus be paid into his pension fund instead of having it paid into his bank account. Any cash bonus will be liable to income tax and national insurance at the store manager's marginal rate – this could be 40 per cent (or even 45 per cent) plus 2 per cent national insurance. So if we take an example of a £10,000 bonus and a 40 per cent taxpayer.
If the storeman receive the £10,000 bonus in cash, he will pay £4,000 in tax and £200 in national insurance contribution, leaving him with only £5,800. If instead the business pays the £10,000 bonus into his pension, the tax and national insurance can be avoided altogether. The full £10,000 will be paid into his pension pot – effectively you have turned £5,800 into £10,000.
What's more, the business won't pay any NIC (usually 13.8 per cent) if the bonus is paid into the storeman's pension. In many cases, employers will pass this saving on to the employee, which in the case above would be an additional £1,380 (£11,380).
The key with retirement bonuses is that with proper planning and consideration, there are ways of structuring the payment that it can be practical and tax efficient for both the employer and the employee.
:: Feargal McCormack (email@example.com) is partner at FPM Accountants Limited (www.fpmaab.com). The advice in this column is specific to the facts surrounding the question posed. Neither the Irish News nor the contributors accept any liability for any direct or indirect loss arising from any reliance placed on replies.