Redundancy: making tax-free payments

Many business owners are contemplating making redundancies, to help combat the effects of the recession.  Before you take that step you need to know what you can, and what you must, pay to a departing employee.

If you are considering a redundancy programme, you need to be sure to follow the correct procedures in relation to employment law.  If you plan to make 20 or more employees redundant over a 90 day period, you must consult with the workers’ representatives at least 30 days in advance of the redundancy date, or 90 days in advance where there are 100 or more proposed redundancies.  The business must also notify the Department for Business, Enterprise and Regulatory Reform (BERR) in writing by letter or by using form HR1, available from its website: www.berr.gov.uk

You can award redundancy pay at any level you wish, but the employee has a right to receive at least the level of statutory redundancy pay.  This statutory amount is calculated according to a formula that includes the employee’s age and length of continuous service, capped at 20 years.  The maximum weekly pay is also capped at £350.  The Chancellor announced in the recent Budget that the limit was to increase to £380.  This change is likely to come into effect on 1 October 2009.

The BERR website provides a calculator to help employers determine the exact minimum that they must pay.  If the business is in liquidation and has no funds to pay the statutory redundancy, the ex-employee can apply to the BERR Redundancy Payments office for payment using the form RP1.

The tax-free element of redundancy pay is capped at £30,000 per employee, but that amount can only include the following elements:

•   Statutory redundancy pay
•   An ex-gratia payment, which was not included in the employee’s employment contract
•   Pay in lieu of notice, which was not provided for in the employee’s contract
•   The value of any benefits provided as part of the redundancy package, such as the use of a car.

Even if the employee’s contract does not include provision for a lump sum to be paid on redundancy, the payment will not be tax-free if the employer normally made such payments and the employee reasonably expected to receive the cash.  HM Revenue and Customs (HMRC) will not allow a payment made upon or in anticipation of an employee’s retirement to be considered as part of the £30,000 tax-free amount.  Payments made by the employer into a registered pension scheme may be tax-free if the conditions for making a pension contribution are met.

Redundancy can be a difficult time for all parties involved.  Wherever possible, businesses should take steps to retain valuable staff and avoid this unfortunate outcome (you have invested a lot of time and money in your staff – and retaining staff will do a lot for morale and goodwill).  Read our guide on the alternatives to redundancy below.

The alternatives to redundancy

One unfortunate consequence of the economic downturn has been a sharp rise in levels of unemployment.  With recent surveys suggesting that many business owners are considering making further redundancies, are large-scale job losses inevitable or are there some viable alternatives?

While making redundancies may initially seem the fastest way of reducing overheads, it is important to consider all of the associated costs, from redundancy payments and potential legal disputes, to reductions in productivity and a loss of core skills and expertise.  Considering some alternative approaches could work in your business’s favour in the long-term.

Factoring in the future

When making key employment decisions during a period of economic decline, it is essential to factor in future recovery.  Staff are a vital asset for the small business owner, and they represent a significant investment in terms of recruitment and training.  Taking steps to reduce or remove the need for redundancies can help you to minimise associated costs while retaining valuable employees. Some of the options to consider may include:

•    Freezing recruitment, overtime and pay

Initial measures may include putting any recruitment plans on hold, scrapping overtime, implementing pay freezes or pay deferral schemes, and cutting bonus payments.  Reducing agency and temporary work can also save money while safeguarding key positions.

•    Taking a flexible approach

Offering reduced hours and flexible working arrangements, which might include part-time working, term-time working, job sharing and home working, can cut costs while enabling you to retain the workforce in preparation for future recovery.  Employees may find a short-time working deal, where they work fewer hours and earn less, preferable to losing their job entirely.  You might also consider staff sabbaticals, or secondments to other companies.

Flexible hours and remote working options can also be offered as an alternative staff benefit in times of economic uncertainty.  Such arrangements can reduce overheads while helping employees to obtain a good work-life balance.  Before making any changes, make sure you are familiar with the terms of any existing employment agreements.

•    Retraining and redeploying

Retraining existing staff and using them to fill any vacancies within the business will allow you to retain valuable resources while saving on recruitment costs.  When business is slow, give staff the opportunity to develop new skills and ask experienced employees to coach newer members.  If appropriate, ask your employees for their input on managing the workload.  Involving them in the process may also help to safeguard morale during times of uncertainty.

•    Early retirement

If the existing body of staff cannot be supported, early retirement can be a preferable option to compulsory redundancy.  Although there are associated costs for both employer and employee, the business benefits can include less impact on staff morale, and less likelihood of legal disputes.

•    Voluntary redundancy

It may suit some members of staff to take voluntary redundancy.  The initial costs may be higher for your business, and you will need to follow the correct procedures for dismissal, but this option can be preferable to compulsory redundancy in both personal and legal terms, so you should weigh up the relative costs and benefits of both options.

Considering the alternatives to redundancy could benefit your business.  Keeping hold of key employees could save you money in the long run, and will enable your business to respond more quickly when the economy shows signs of recovery.