Both employers and employees need to understand how lump sum payments are taxed under Australia’s marginal tax rates for staying compliant and avoiding unexpected tax liabilities.
Whether you’re receiving a redundancy payout or managing payroll as an employer, knowing the tax rules can make a big difference (avoiding penalties!). Here’s a simple guide to lump sum payments and how they impact marginal tax rates for Aussies.
What Are Lump Sum Payments?
Lump sum payments are one-off payments made to employees, often separate from regular wages or salaries. These include:
- Redundancy payouts
- Unused annual or long service leave entitlements
- Back payments of wages or allowances
- Employment termination payments (ETPs)
These payments are taxed differently depending on their nature and your income level.
What Are Marginal Tax Rates?
Marginal tax rates are the percentages applied to each extra dollar of income within specific income brackets set by the Australian Tax Office (ATO). The higher your income, the higher the marginal tax rate you pay.
When it comes to lump sum payments, the marginal tax rates that applies depends on:
- The type of payment (e.g., redundancy, leave payout).
- Your total annual income.
- Whether the payment qualifies for special tax concessions or exemptions.
*For more info, refer here.
How to Calculate?
Let’s quickly break down the calculation to illustrate how a lump sum payment may be taxed under Australia’s marginal tax rates.
Example:
- Employees receive a redundancy payout of $50,000.
- Their annual income (excluding the lump sum) is $80,000.
- Part of the lump sum qualifies for a tax-free threshold.
Step-by-Step Calculation
- Tax-Free Threshold for Redundancy
- According to the ATO, the tax-free portion of a redundancy payment depends on the employee’s years of service. For this example, the tax-free threshold is $20,000.
- Tax-Free Component = $20,000 (not taxable).
- Taxable Component of Lump Sum
- Taxable Portion = Total Lump Sum – Tax-Free Threshold
- $50,000 – $20,000 = $30,000.
- Marginal Tax Rate for the Taxable Component
- The employee’s total income, including the lump sum, is $80,000 + $30,000 = $110,000.
- According to the ATO marginal tax rates for 2023–2024:
- Income up to $45,000: Taxed at 19%.
- Income from $45,001 to $120,000: Taxed at 32.5%.
- Tax on Taxable Lump Sum
- The $30,000 falls into the 32.5% tax bracket.
- Tax = $30,000 × 0.325 = $9,750.
Tips for Employees and Employers
To ensure you handle lump sum payments correctly:
- Understand Your Tax Position: Calculate how the lump sum will impact your total taxable income.
- Check for Concessions: If you’re eligible for redundancy or early retirement concessions, confirm the applicable tax-free thresholds with the ATO.
- Use Payroll Software: Employers can streamline tax calculations and reporting obligations by using payroll software compliant with Australian tax regulations.
- Seek Professional Advice: Speak with a tax agent or accountant to ensure you’re meeting your obligations and maximising your entitlements.
To Wrap Up
Managing lump sum payments under marginal tax rates requires careful consideration of the payment type, applicable concessions, and reporting obligations. By staying informed and updated of the requirements, both employers and employees can easily prevent the ATO from knocking on your front door one day with a hefty fine!
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Read More:
How to Pay Employee Tax and Super?
The Ultimate Employee Redundancy Guide
