It appears there has been some confusion among taxpayers when it comes to classifying holiday pay as either salary/wages or as an extra pay for the purposes of deducting PAYE. This was not helped by incorrect material published on the IRD website.
It is important to get this right because the two classifications attract different treatments for the deduction of PAYE.
In brief the appropriate treatment to apply prospectively from 1 April 2016 is as follows:
- Holiday pay paid in substitution of the employee's ordinary salary or wages when the employee takes annual paid holidays. This type of holiday pay is "salary or wages". The gross amount of holiday pay should be allocated appropriately to the number of days/weeks of leave taken, and then the PAYE tables applied.
- Annual accrued holiday entitlement paid as a lump sum on the termination of an employee's employment. This type of payment is treated as an "extra pay" and PAYE should be deducted using the rates for extra pay.
- Annual accrued holiday entitlement paid as a lump sum before the holiday is taken (holiday pay paid in advance). This is treated as an "extra pay" and PAYE should be deducted using the rates for extra pay.
- Holiday pay paid as a lump sum payment on the termination of employment where either there is no accrued entitlement (employment terminated within first 12 month of employment), or before a further entitlement has arisen. In these circumstances, the Holidays Act 2003 requires that holiday pay is calculated on 8% of the employee’s gross earnings since the start of employment or since the last entitlement to paid holidays arose. For PAYE purposes, this payment is treated as an “extra pay” and PAYE should be deducted using the rates for extra pay.
- Holiday pay paid as part of an employee's regular pay at the rate of 8% of the employee's gross earnings. This payment is treated as part of the employee's regular salary or wages. The PAYE tables should be applied to the gross amount of holiday pay together with the regular salary or wages.
For a copy of the Commissioners full operational statement click here.
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