Tax treatment of sum received after termination of employment
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Tax treatment of sum received after termination of employment
The OECD Committee on Fiscal Affairs, through a sub-group, has undertaken to clarify how variety of payments, such as non-competition payments, notice pay, severance payment, etc., that may be made following the termination of an employment, should be treated for tax treaty purposes. Accordingly, it issued a draft proposal for additions and alterations to the Commentary on the OECD Model Tax Convention. A brief synopsis of suggestions given by OECD Committee on tax treatment of termination payments is provided as follows:
1. REMUNERATION FOR PREVIOUS WORK - Any remuneration paid after the termination of employment for work done before the employment is terminated (e.g. a salary or bonus for the last period of work or commission for sales made during that period) will be considered to have been derived from the State in which the relevant employment activities were exercised.
2. PAYMENT IN LIEU OF NOTICE OF TERMINATION - The payment received ‘in lieu’ of notice of termination should be considered to be derived from the State where employee would have worked during the period of notice, which will be the State where the employment activities were performed at the time of the termination.
3. SEVERANCE PAYMENT - Severance payment should be considered to be remuneration derived from the State where the employment was exercised when the employment was terminated.
4. PAYMENT OF DAMAGES FOR UNLAWFUL DISMISSAL - The tax treatment of such payment will depend on what the damage award seeks to compensate. It can be categorised into following:
a) Remuneration: Sum paid for serving an insufficient period of notice or because a severance payment was required by law should be treated as remuneration for these damages.
b) Capital Gains or Other income: Punitive damages awarded on grounds such as discriminatory treatment or injury to one’s reputation would typically fall under Article 21 (Other Income) or Article 13 (Capital Gains).
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