Covid and redundancies – accounting under FRS 102 and corporation tax treatment
The accounting and tax treatment of Covid-related redundancy payments for companies.
The impact of Covid-19 on sustained trading and the changing announcements in relation to the furlough scheme have forced many businesses to make some of their staff redundant. This article considers the accounting and tax treatment of redundancy payments for companies.
Accounting under FRS 102
Redundancy payments fall under the definition of termination benefits and are accounted for in accordance with section 28 (paragraphs 28.31 to 28.37 and 28.43 to 28.44) Termination Benefits.
Termination benefits are employee benefits provided in exchange for the termination of an employee’s employment as a result of either:
an entity’s decision to terminate an employee’s employment before the normal retirement date; or
an employee’s decision to accept voluntary redundancy in exchange for those benefits.
An entity draws no economic benefits from the termination payments. As a result, paragraph 28.32 requires that redundancy costs are recognised in profit or loss immediately once the entity is demonstrably committed to terminate employment or make payment due to an offer made to encourage redundancy (para 28.34).
Where an entity is making redundancy plans close to its balance sheet date, the position at the balance sheet date must be carefully assessed to determine whether the conditions are met at that time.
If the recognition criteria have been met at the balance sheet date, the expense and a corresponding provision should be recognised in the accounts. If an entity is not demonstrably committed to a termination, it must not recognise the expense.
If the recognition criteria have been met after the balance sheet date but before the accounts are approved, a non-adjusting post balance sheet event should be disclosed.
If the recognition criteria have not been met or there is uncertainty about the number of employees who will accept an offer of termination benefits at the balance sheet date or before the accounts are approved, relevant entries and disclosures will not affect the accounts of the relevant year and instead may be reflected in future periods, although some disclosures may be required (see below).
An entity is only demonstrably committed by accepting a legal or constructive obligation to make redundancy payments. An entity will demonstrate commitment if it has:
prepared and approved a detailed formal plan to terminate employment where there is no realistic possibility of withdrawal from the plan (para 28.35).
raised a valid expectation in those affected by redundancies that it will carry out the restructuring by starting to implement that plan or announcing its main features to those affected by it (21.11C).
It is not necessary for the plan to specify which individual employees will be made redundant, but it should refer specific employee group affected and discuss impacts.
A detailed formal plan must therefore identify at least:
the business or part of a business concerned
the principal locations affected
the location, function, and approximate number of employees who will be compensated for terminating their services
the expenditures that will be undertaken
when the plan will be implemented.
Discussions about likely redundancies in the context of future plans for the business do not constitute a detailed plan.
No realistic possibility of withdrawal
FRS 102 does not define what 'no realistic possibility of withdrawal' means, therefore management should consider whether likelihood to withdraw plans exists taking into account the commercial and financial position of the business and whether formal announcements have been made informing those likely to be affected at or before the balance sheet date.
The following circumstances describe some examples when the condition of ‘no realistic withdrawal’ is not met.
management have only had internal discussions and decisions made have not been announced formally
decisions made are not backed by a sufficiently detailed plan
decision to make redundancies has been announced formally but management still need to conduct further analysis before deciding which group of employees will be made redundant. As a result the plan cannot be considered sufficiently detailed so as to raise a valid expectation in those employees that will be affected.
Termination benefits should be measured at the best estimate at the reporting date of the expenditure that would be required to settle the obligation (para 28.36).
Where an offer to encourage voluntary redundancy is made, the measurement of termination benefits should be based on the number of employees expected to accept the offer.
Where payment is expected to be made more than 12 months after the end of the reporting period and the time value of money is material, redundancy costs should be discounted to present value, using high quality corporate bonds as a discount rate (28.17).
For each category of termination benefits that an entity provides to its employees the entity should disclose (para 28.43 to 28.44):
the nature of the benefit
its accounting policy
the amount of its obligation and the extent of funding at the reporting date.
Where there is uncertainty about the number of employees who will accept an offer of termination benefits, disclosure should be made of the contingent liability in accordance with section 21 of FRS 102, unless the possibility of outflow is remote.
For redundancies paid in the course of an ongoing business, tax deductibility of redundancy payments broadly follows general rules:
payments are incurred wholly and exclusively for business purposes, and are not of capital nature
to obtain relief in the relevant period of account, the payment must be made within nine months of the end of that period.
In addition, redundancy payments are also deductible if they are made on the cessation of trade, if the payment is made:
to an employee taken on for the purposes of the trade; and
under a pre-existing contractual or statutory obligation which was a consequence of the person being employed for the purposes of the trade.
Tax relief is available for redundancy payments up to four times the statutory redundancy payment, calculated separately for each employee.
Where the payments are made after the cessation of trade, the relief is given on the last day of trading.