Tax and SARS knowledge base
PAYE on accumulated leave paid at termination
What PAYE applies when an employee is paid for accumulated leave on termination?
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Direct answer
Accumulated leave paid to an employee when employment ends is taxable remuneration. SARS says leave pay is payment for services rendered and does not form part of a severance benefit. Accrued leave paid on resignation or another normal termination is taxed in the same way as a bonus, using the annual-payment PAYE calculation. It is normally reported under the leave-pay treatment in the employer payroll rules.
The type of termination still matters. Retrenchment, retirement and death can involve a SARS tax-directive process for a relevant lump sum. That does not turn contractual leave pay into a tax-free severance benefit. Payroll must separate accrued leave from other termination amounts before calculating PAYE.
What this means in practice
Leave normally accrues as the employee works. SARS says no value is placed on unused leave until it is paid. Once it is encashed, whether on resignation, retirement, dismissal or another lawful termination, it is remuneration and is subject to PAYE.
For ordinary termination, SARS instructs employers to complete the PAYE calculation at the end of the employee's tax period. Its guide also lists leave pay on resignation and encashment of leave as examples of annual payments. The annual-payment method takes account of the employee's annual-equivalent remuneration and the lump sum, rather than treating the payment as an isolated low-tax amount.
An exit package can contain several components. It may include salary to date, notice pay, a leave balance, a bonus, a restraint payment and possibly a severance benefit. They should not be bundled under the single heading "termination payment". Keep the supporting documents clear enough for payroll to process each component under the correct rule.
Step-by-step
- Confirm the termination facts.
Record the final employment date, reason for leaving and the contractual or statutory leave balance. Keep the relevant resignation, dismissal, retrenchment, retirement or death documentation.
- Calculate the actual leave entitlement.
Use the employment contract, leave policy and leave system records. Distinguish accrued leave that the employee is entitled to from a discretionary payment the employer is not required to make.
- Separate each exit amount.
Prepare a schedule that shows final salary, leave pay, bonuses, notice payments, any severance amount and deductions separately. This avoids putting a leave amount into a directive application or severance category merely because it is paid at the same time.
- Apply the correct payroll treatment.
For normal termination, process qualifying accumulated leave as an annual payment. SARS says the PAYE is determined at the end of the tax period. Ensure the payroll system uses the current SARS deduction tables and reporting configuration.
- Consider a directive only for the relevant amount.
For retrenchment, retirement or death, obtain advice on whether a directive is needed for a lump-sum benefit. SARS's guide says leave payment should not be included on the directive because it belongs in normal income.
- Reconcile and retain the certificate trail.
Check the payslip, final EMP201 and IRP5 or IT3(a) information against the exit schedule. Give the employee the required records, but do not promise their final tax position because SARS will assess the full year.
Documents and records to keep
Keep the employment contract, leave policy, leave ledger, termination letter, exit calculation and final payslip. Retain the payroll calculation, any directive and the IRP5 or IT3(a) support. Employer records generally need to be retained for five years, and longer where they relate to an audit, objection or appeal.
Important limits and exceptions
This guide is about accumulated leave the employee was entitled to receive. A voluntary gratuity that is calculated by reference to leave days but is not actually leave pay can have different treatment. So can a settlement agreement that combines several types of payment.
Do not assume that retirement or retrenchment makes every final payment a severance benefit. The direct tax result depends on the legal entitlement and the nature of each amount. A deduction or recovery from a leave payment also needs to be handled under the relevant employment and payroll rules.
When to get tailored advice
Get tailored payroll and tax advice for a negotiated settlement, a large accumulated-leave payment, a retrenchment package, disputed leave balance or a payment after the employee has died. Review the papers before finalising the payroll, not after payment.
TaxProof can help organise termination, leave and payroll evidence. We cannot decide severance-benefit eligibility or determine the employee's final assessment.