Q: I was made redundant in May 2016. As I receive income from both a company pension (defined benefit) and a private pension, I am assuming I will need to complete a self-assessment tax return for the year 2016-2017.
My query is: when I complete a self-assessment, do I declare my redundancy pay, which I assumed to be a tax-free lump sum? Including payment in lieu of holidays and notice of termination, the total sum received amounted to approximately £23,500.
A: A redundancy can come as an unexpected blow. While the pay-out can help you manage your finances, it's important to know exactly how much tax you're likely to pay and what will end up in your pocket.
Which? explains how tax works in relation to redundancy payments and your allowances.
Redundancies qualify for special treatment under tax law - you can receive up to £30,000 in redundancy pay without having to pay any tax on it.
There's a legal minimum your employer must offer you as compensation for losing your job, but some companies offer more generous terms.
Sometimes, you may also be given non-cash benefits, such as being allowed to keep the company laptop or car. This asset is given a value, and then added to your pay-out to determine whether you're under the tax-free limit.
So, for example, if your redundancy pay-out is £25,000, but you're given your company car (valued at £10,000), you would be over your £30,000 threshold.
Your overall redundancy offer will often include other types of pay - like holiday pay, pay in lieu of notice, wages owing and bonus payments - and some of these payments may be taxable.
Unpaid wages - including overtime and bonuses or performance incentives - will be taxed in full and National Insurance contributions (NIC) will be payable, even if you receive the payment after you finish working.
Similarly, you'll need to pay tax and NIC on anyholiday pay you're entitled to.
In some cases, your employer may pay you out for your notice period, instead of expecting you to work - known as 'payment in lieu of notice period'. If your employment contract requires this payment - or your employer normally pays it as standard practice - you may need to pay tax and NIC on this as well.
Generally, your employer will automatically deduct tax from these sums before paying them out to you. But this can get complicated, so it's worth seeking professional advice if you're unsure.
If your redundancy pay is higher than £30,000, you will normally have to pay tax on the excess.
Generally, your employer will deduct any tax before paying you out. But the amount they deduct may not necessarily be correct if you stopped working half-way through the tax year.
If you're a basic-rate payer, you may end up over-paying on redundancy sums above the threshold - while if you're a higher- or additional-rate payer, you may find that you still owe a sum at the end of the tax year.
If you owe tax - or need to claim a rebate for over-payment - you'll need to notify HMRC.
If you start a new job straight away, refunds are likely to paid through your pay packet.
On the tax return, you should include any amounts under the £30,000 threshold in the additional information pages, where you're asked to declare 'compensation and lump sums up to £30,000 exemption.' The excess should be declared in the section asking for 'redundancy, other lump sums and compensation payments - the amount above the £30,000 exemption.'
If you end up owing tax on your redundancy pay above £30,000, you may be able to minimise your bill by paying into a pension. Contributions paid into your pension qualify for at the highest level of tax you pay - so 20% for basic-rate payers, 40% for higher-rate payers and 45% for additional-rate payers.
But there's a limit to how much you can pay into a pension fund each tax year - youcan't contribute more than you earn in the period and you can't exceed £40,000 as a maximum limit.
But be careful if you're planning to start a new job, as your new pension contributions may push you over the threshold.