Directors can get up to £30,000 as a tax free statutory redundancy payment providing that they are also an employee of the company. To qualify as an employee of the company, you must have a CONTRACT OF EMPLOYMENT.How is redundancy defined in law?"... an employee who is dismissed shall be taken to be dismissed by reason of redundancy if the dismissal is attributable wholly or mainly to:

the fact that his employer has ceased, or intends to cease, to carry on the business for the purposes of which the employee was employed by him, or has ceased, or intends to cease, to carry on that business in the place where the employee was employed or

the fact that the requirements of that business for employees to carry out work of a particular kind, or for employees to carry out work of a particular kind in the place where he was so employed, have ceased or diminished or are expected to cease or diminish."

Who qualifies for statutory redundancy?

An employee with at least two years’ service.

Including an employee working under a fixed-term contract agreed, renewed or extended since 1 October 2002.

Office-holders such as directors qualify if they work under a contract of employment .

Who does not qualify for statutory redundancy?

Self employed

Those in a partnership

An office holder (director) without a contract of employment who only has a controlling interest in the company and deals with company policy and attends board meetings in return for fees.

A statutory redundancy payment is due only where the employee is dismissed (as compared with resignation).

Under some circumstances a redundancy payment can be made to a director/shareholder and it will be treated as a tax deduction in the company's accounts. This is only for the purposes of continuing trading or to ensure the orderly winding down of the business, but if the company has already ceased trading, it would be difficult to claim statutory redundancy.

How does it work and what should you consider?

Like anything else, winding up a company and making redundancies needs to be carefully planned and the rules followed to the letter. The following points should be considered:

Contract of employment

If you are a director you should make sure you have a contract of employment to show that you are an employee of your company. If you do not have a contract of employment a non-statutory payment may be possible even without an employment contract, but only if it is company policy or practice, so you should check your staff handbook to see if this point is covered.

Payment for shares

Where the company is being sold and/or repurchasing its shares from the director, then HMRC may request that you put an amount which would have been paid as a redundancy payment towards the purchase of shares.However, don’t despair, because even if the full tax-free statutory redundancy payment cannot be paid and the redundancy deal involves the sale of the company shares at a loss, or the company is bust and so the shares are of "negligible value", it may be possible to elect to have the loss offset against your income tax liability. Our recently re-issued blog on negligible value claims is worth reading.

Writing off a director’s loan

Where a director’s loan account is overdrawn, a write-off of the balance is taxed in the same way as salary, i.e. subject to PAYE tax and NI.Allowing the director’s loan account to become overdrawn is a situation that you should not allow to arise. Our recently re-issued blog on director’s loan accounts is worth reading.

Pension funds

A lump-sum payment made to an employee aged over 55 on ceasing employment is seen by HMRC as provision for retirement. For this reason, the amount will be seen as a contribution into an unapproved pension fund which, unlike payments into an approved fund, is taxable. In this circumstance it may be better to pay the redundancy payment into an approved pension fund tax free, and if you are over 55 you will then be entitled to draw a tax-free lump sum from the pension fund immediately.

What should you do if you are considering winding up the company?

Up to £30,000 of any redundancy payment is usually tax free, but this is not so for a director or controlling shareholders. You must be an employee of the company with a contract of employment. You should consider all the points made above and get expert advice and guidance about how to proceed.

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