Payments classified as an employment termination payment (ETP) are treated differently for tax purposes depending on the particular code they fall within and whether they are paid in the same financial year as the date of termination. ETPs have PAYG withheld in accordance with the Schedule 11 tax table. In the following sections, we’ll take a look at the PAYG calculations for each of the life benefit ETPs:
NB: This article specifically refers to PAYG relating to termination payments (life benefits). For detailed information on how to process these payments, see the below articles:
- Processing Employment Termination Payments – Type R & Type O
- Processing Employment Termination Payments – Type S and Type P
PAYG on Type R/S Employment Termination Payments
Type R
The portion of a redundancy payment (or early retirement scheme payment) over the tax free limit is classified as an ETP type R. For more information on what other kinds of payments are classified as type R, also known as excluded payments, see our dedicated support article.
The taxable component of type R payments are subject to the ETP cap, which determines how much of that component receives concessional tax treatment.
Rates and threshold
The amount of the taxable component up to and including the cap amount is taxed concessionally:
- 17% (including the Medicare levy) for employees who have reached preservation age; or
- 32% (including the Medicare levy) for employees who are under preservation age.
The employee’s preservation age depends on their date of birth – the system will work out the applicable preservation age based on the employee’s details and apply the correct rate. View the preservation ages and corresponding birth dates on the ATO here.
If part of the type R payment exceeds the ETP cap, that portion has PAYG withheld at the highest marginal rate of 47%.
ETP cap and reductions
The ETP cap is indexed annually and automatically updated in the system with the new tax tables. For 2021/2002 the ETP cap is $225,000. The ETP cap is reduced by the taxable component of other ETPs received in the same financial year. In the context panel under the ETP cap reduction section you’ll see the indexed cap displayed, less any previous payments to arrive at the relevant applicable cap. The date, type and amount of each previous ETP reducing the cap is displayed and you can click through to each payment, which open the relevant pay run in a new tab.
For example, Patti Smith's employment is terminated in a pay run ending 30 Nov where they are paid:
- a type O lump sum of $10,000 as payment in lieu of notice
- a type O payment of $5,000 for unused sick leave and RDOs and
- an ETP type R of $90,000.
The type R payment will be subject to the ETP cap – this is NOT reduced by the other ETPs in the pay run. In the next pay run, Patti is paid another instalment, receiving an ETP type R of $140,000. The ETP cap will now be reduced to take into account that the concessional rate has already been applied to the previous ETPs. The cap of $225,000 is therefore reduced by the previous payments (a total of $105,000) to an adjusted ETP cap of $120,000. This means that the first $120,000 of this second type R payment will be taxed at the concessional rate and the remaining $20,000 will be taxed at 47%.
Type S
Sometimes you may need to process another ETP type R in a subsequent financial year to the actual termination date. In this case, provided the payment is in relation to the same termination it will be classified as an ETP type S. For more information on processing type S payments, see our dedicated support article.
As with type R payments, type S payments are subject to the ETP cap which determines what, if any, portion will have withholding calculated at concessional rates. Again, the ETP cap may be reduced by previous ETPs. Specifically:
- Previous ETPs in relation to the same termination paid in a previous financial year; and
- Any ETPs for the same or a different termination, paid in the same financial year as the present payment.
These payments will display in the context panel under the ETP cap reduction section as for ETP type R.
Cap reductions – Opening balances
If you are processing an ETP in a subsequent pay run to the original termination and a previous ETP was entered in the employee’s opening balances and the payment reduces the ETP cap, that payment will display in the context panel as a relevant reduction to the applicable cap.
Cap reductions – Cap reduced to zero
The ETP cap cannot be reduced beyond zero, so if previous ETPs exceed the cap, you will see a notification in the context panel ‘ETP cap is not reduced beyond zero.’
PAYG on Type O/P Employment Termination Payments
Type O
Type O payments, also known as non-excluded payments, are treated a little differently to type R payments for PAYG purposes. You may have multiple payments in your pay run that are classified as type O:
- Lump sum type O which is not superable – eg a ‘golden handshake’
- Lump sum type O which is superable – eg payment in lieu of notice
- Unused leave which has been set to be paid out as an ETP in the leave category settings – eg unused sick leave or rostered days off (RDO).
For more information on what kinds of payments are classified as ETP type O, see our dedicated support article.
Despite the differences in liability to super and the way they appear in the pay run, each of these type O payments is aggregated and treated as a single type O ETP when withholding PAYG. The total type O figure and a breakdown of the relevant parts can be found by expanding the ‘Taxable component’ section under the ‘PAYG on ETP type O’ subheading.
As with excluded ETPs, the taxable component of type O payments receive concessional tax treatment up to the applicable cap. However, for type O payments, the applicable cap will be the smallest of the ETP cap and the whole of income (WOI) cap. Let's take a closer look at the caps and the comparison process.
Relevant caps and reductions
The WOI cap is not indexed. As at 2021-2022, the cap remains unchanged at $180,000. However, it will be reduced by any other taxable income received by the employee during the financial year – this includes the following payments you may have made to the employee:
- Year to date (YTD) taxable earnings
- Previous ETPs in the same financial year, whether for the same termination (but not the same pay run) or a different termination.
The reductions to the ETP cap are a little different for type O payments. The cap is reduced by:
- previous ETPs in the same financial year
- an ETP type R made in the same pay run.
Cap comparison
The WOI and ETP caps are then compared and the lowest is applied to the type O payment to determine the proportion subject to the concessional rate. The applicable cap, adjusted for any relevant reductions, will display on the context panel under the taxable component.
You can see the reductions and the comparison in the context panel by clicking on the ‘Cap comparison’ link in the ‘Applicable cap’ section under the ‘PAYG on ETP type O’ subheading. A second layer will open, with each cap reduction calculation displaying in a separate column and the lowest cap highlighted and indicated by a label ‘Lowest of the two caps’. If there are no relevant reductions, this will be apparent in the display and the WOI cap will therefore apply.
Rates and thresholds
As for type R payments, the taxable component up to and including the applicable adjusted cap amount is taxed concessionally:
- 17% (including the Medicare levy) for employees who have reached preservation age; or
- 32% (including the Medicare levy) for employees who are under preservation age.
The employee’s preservation age depends on their date of birth – the system will work out the applicable preservation age based on the employee’s details and apply the correct rate. View the preservation ages and corresponding birth dates on the ATO here.
If part of the type O payment exceeds the ETP cap, that portion has PAYG withheld at the highest marginal rate of 47%.
Type P
If you process another ETP type O in a subsequent financial year to the actual termination date, provided the payment is in relation to the same termination it will be classified as an ETP type P. For more information on processing type P payments, see our dedicated support article.
As with type O payments, type P payments are subject to the smallest of the ETP cap and the WOI cap. Both the ETP cap and the WOI cap may be reduced by other ETPs in the same year. However, for the purposes of calculating type P withholding, the ETP cap is also reduced by ETPs in relation to the same termination paid in a previous financial year. In summary:
WOI cap reductions:
- Year to date (YTD) taxable earnings;
- Previous ETPs in the same financial year, whether for the same termination (but not the same pay run) or a different termination.
ETP cap reductions:
- Any previous ETPs (for the same or a different termination) paid in the same financial year as the present payment;
- an ETP type S made in the same pay run;
- Previous ETPs in relation to the same termination paid in a previous financial year.
These payments will display in the context panel under the ETP cap reduction section as for type O payments.
Cap reductions – Opening balances
If you are processing an ETP type O or type P payment in a subsequent pay run to the original termination and a previous ETP was entered in the employee’s opening balances and the payment reduces either the ETP cap or the WOI cap, that payment will display in the context panel as relevant reduction to the applicable cap.
Cap reductions – cap reduced to zero
The ETP cap and WOI cap cannot be reduced beyond zero, so if previous ETPs exceed these caps, you will see a notification in the context panel ‘ETP cap is not reduced beyond zero’ or ‘WOI cap is not reduced beyond zero’.
Cap comparison – both caps zero
In the event that both the ETP and WOI caps are reduced to zero by previous payments or taxable earnings, the WOI cap will apply, and will be indicated accordingly in the context panel.
Override calculations
In the pay run, you may choose to override the automatic calculation of PAYG for ETPs and manually enter PAYG instead. If you do, we will continue to show the calculation in the context panel but the PAYG amount will display the adjusted amount and a badge will also display on the PAYG amount indicating that the calculation has been overridden.
Opening balances and ETPs
If you are migrating terminated employees' data across to this payroll system, you can include ETP data so that you only need to access one system for reporting and payment summary purposes. You are able to select the following ETP payments:
- Type R - e.g. genuine redundancy, early retirement scheme, invalidity, compensation
- Type O - other ETP payments not included in Type R
- Type S - where an ETP was made in a previous financial year and an excluded ETP is made in the current financial year relating to the same termination
- Type P - where an ETP was made in a previous financial year and a non-excluded ETP is made in the current financial year relating to the same termination
Take note of the field 'Generate ETP Payment Summary'. The default value is 'No' - if you leave this option as is, the employee's ETP Payment Summary will not be published and so the employee will not have access to it. If you change the value to 'Yes', the employee's ETP Payment Summary will automatically publish and they will be able to access this via their employee portal.
If you have any questions or feedback, please let us know via support@yourpayroll.com.au.