Even IRD is confused by the Holidays Act
October 15, 2014
Last week the latest IRD Business Tax Update newsletter was issued. It just so happened that there was a section on Holiday Pay.
This contained the following statement:
“Accrued holiday pay paid at the end of employment is also treated as an extra pay and taxed as a lump sum.”
When I read this I was very surprised. That’s not the way FlexiTime does it. We’re very proud of our tax calculation accuracy. To find an official statement from the IRD suggesting we’ve got something totally wrong was a shock.
Fortunately the very next day I was going to a co-design session with the IRD looking at the future of how employers will interact with the IRD. There was a whole room of fellow payroll gurus. Sure enough, at morning tea the conversation went a little like this:
“What about that newsletter from IRD last night?” “The holiday pay calculation? Whoops.” “I know!” “Here, I’ve got it up on the screen…”
How should tax on a final pay be calculated? Any extra payments for leave in a final pay (including annual leave due, holiday pay and other leave types) gets divided by the employee’s average pay to find out how many average weeks it covers, and is then taxed as if earned across that extended period. This would usually be taxed at a considerably lower rate than an extra pay which is taxed entirely at the highest marginal rate.
Part of the problem seems to be that no one at IRD quite understands the Holidays Act legislation in practice. The first line in the article says:
“Holiday pay is both pay for an employee’s annual leave and pay for statutory holidays.”
As if things weren’t complicated enough already, they’ve added statutory holidays into the mix. They then go on to discuss 4 week entitlements and 8% which have got nothing to do with statutory holidays.
The IRD Holiday Pay Tax Calculator is similarly confusing. It doesn’t reflect the way in which holidays are paid out in practice. If you took an example of an employee’s final pay from the Department of Labour and tried to apply the calculator to it you’d soon be confounded. On the second step you have to choose whether the holiday pay was:
4 weeks of regular salary/wage or 8% of gross salary/wage
But in the Department of Labour’s example there are portions that come under both these categories.
We’ve contacted the IRD about the lump sum statement, probably along with another dozen payroll nerds from other software providers. If we get any clarification from them we’ll update this blog.
This issue has now been sent to the Office of the Chief Tax Council. The tax buck stops there, and we’re awaiting their ruling.
IRD has decided to go with taxing holiday pay amounts as extra pay. They will be asking software vendors to change their systems in time for the start of the next tax year.
FlexiTime has implemented the IRD changes ready for April 1.
Sign up to our newsletter
Keep up with FlexiTime! We'll make sure you stay in the loop with product updates and other great content.
Minimum sick leave entitlement to increase to 10 days
A review of the Holidays Act review
Get Started for Free
Take care of your team on payday with smart, modern and seriously compliant online payroll.