If you’ve been made redundant this can cause some difficulty with your tax, and you may end up over or underpaying your tax. This could be because the tax paid on your redundancy package is incorrect or because other income from this tax year is not yet taken into account.
The first £30,000 of any redundancy payment for loss of office, is free of Income Tax and National Insurance. Though, not all of your redundancy payments may fall into this category.
For example, some payments like arrears of holiday pay, or other amounts arising out of the contract of employment, are still taxable.
Any excess over £30,000 will be taxed, but the amount of tax deducted at source is unlikely to be exactly right.
What could go wrong?
There is a danger of underpaying on tax. Your large redundancy payment could mean you are liable for higher rates of tax in the year it is paid. And, under Self Assessment you may not receive this tax bill until 22 months after your redundancy payment.
Your Tax Code for your redundancy payment
With redundancy, you are often paid a lump sum after you have left the payroll. Usually, you will be paid under the tax code of 0T on a Month 1 basis, so the tax code will show as 0T M1. This code gives no tax-free pay and only one month’s allocation of each tax band.
For most employers, this ensures that sufficient tax is paid, but it is unlikely to be correct when you take into account any other income for the year.
As a general rule, a basic rate taxpayer is likely to overpay tax on the 0T M1 code and a higher rate taxpayer is likely to underpay tax on this tax code.
What if an 0T tax code has not been used?
In this case, you will need to take advice to check the impact of your final tax position for the year.
This is a specialist area and a tax adviser should be consulted if there is any dispute about what elements of a redundancy package are taxable.
If the redundancy was recent, you should check your tax position with HMRC or a tax adviser to see if any additional tax, or a refund, may be due.
If you were unaware that there was an underpayment of tax on the redundancy payment, you may need advice on dealing with tax debt.
