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Compensation for Loss of Employment in Malaysia – Tax Treatment

Many industries have been impacted severely by the Covid-19 pandemic that led to retrenchment of their employees in Malaysia. 

Are the income received by these employees from loss of employment taxable or exempted in Malaysia? 

Before diving into the tax treatment, do note that in some circumstances sum received from loss of employment may include both “compensation for loss of employment” and “gratuity”.

A clear distinction must be made between the two due to different tax treatments.

Compensation for loss of employmentGratuity

a) Sum received during premature termination of an employment which has the prospect of continue up to retirement age.

b) Taxed under Section 13(1)(e) of the Income Tax Act 1967 (“ITA”)

a) Sum received at the end of an employment contract or retirement age

b) Paid to recognize the past services rendered by an employee

c) Taxed under Section 13(1)(a) of the ITA

We will first look into compensation for loss of employment and its tax treatment.


Compensation for Loss of employment


What is included in compensation for loss of employment?



Tax treatment for compensation for loss of employment received in malaysia

Compensation for loss of employment received due to ill health is given full exemption.  However, this will be based on the IRB’s discretion.

Note: The health condition of the employee has to be certified in writing by a Medical Board. Documentation that verifies the medical condition of the employee has to be forwarded to the IRB.

 DateDetails
Termination on or after 1 July 2008RM10,000 for every completed year of service (i.e. 12 months)
Termination in 2020 and 2021RM20,000 for every completed year of service (i.e. 12 months)
This amount is only applicable for loss of employment occurred in 2020 and 2021.

Criteria for the above exemption: Worked with the same employer or companies within the same group during the period.


Example 1:

  Details
Date of commencement 1 April 2016
Date of cessation 30 June 2020
Total compensation received

RM85,000

 

No. completed years of service

4 years

1 April 2016 to 31 March 2017 : 1st completed year
1 April 2017 to 31 March 2018 : 2nd completed year
1 April 2018 to 31 March 2019 : 3rd completed year
1 April 2019 to 31 March 2020 : 4th completed year
1 April 2020 to 30 June 2020 : less than 12 months, not a completed year

Amount exempted

RM80,000
(RM20,000 x 4)

As the date of cessation falls in 2020, the employee is entitled for an exemption of RM20,000 for every completed year of service.

Amount taxable RM5,000
(RM85,000 – RM80,000)

Example 2:

 Details
Date of commencement1 April 2016
Date of cessation30 June 2022
Total compensation received

RM85,000

 

No. completed years of service

6 years

1 April 2016 to 31 March 2017 : 1st completed year
1 April 2017 to 31 March 2018 : 2nd completed year
1 April 2018 to 31 March 2019 : 3rd completed year
1 April 2019 to 31 March 2020 : 4th completed year
1 April 2020 to 31 March 2021 : 5th completed year
1 April 2021 to 31 March 2022 : 6th completed year
1 April 2022 to 30 June 2022 : less than 12 months, not a completed year

Amount exempted

RM60,000
(RM10,000 x 6)

As the date of cessation falls in 2022, the employee is entitled for an exemption of RM10,000 for every completed year of service.

Amount taxableRM25,000
(RM85,000 – RM60,000)

The above tax exemption for compensation for loss of employment does not apply to:

  • Voluntary Separation Schemes where reemployment (by the same or different employer) is expressly stated or implied.
  • Payments made by controlled companies to non-full-time service directors.

Service director:

  • A director employed in the service of the Company in managerial or technical capacity
  • Does not own or exercise control (directly or indirectly) more than 5% of the ordinary share of the Company

Example 1 – Reemployment implied under separation schemes:

Mr K was employed by a company, undergoing restructuring and offered its employees a separation scheme. The company made arrangements to get their employees to be employed by another company. Mr K opted for the separation scheme and received RM100,000 as compensation for loss of employment.

As reemployment was implied, Mr K was not entitled to any tax exemptions. The RM100,000 received was wholly taxable.

Example 2 – Compensation for loss on employment for non-service director:

Mr M was the finance director of Company B Sdn Bhd (“Company B”). He held 20% of Company B’s ordinary shares. In 2020, Company B was liquidated due to the pandemic. Mr M was forced to leave the company and was compensated with RM500,000 for loss of employment.

Mr M is not considered as a service director as he holds more than 5% of Company’s B ordinary shares. Hence, he is not eligible for any tax exemption. The RM500,000 received will be wholly taxable.


Gratuity


Tax treatment for Gratuity received in Malaysia

Full tax exemption is given for gratuities received for the following reasons:

  • Due to ill health (based on IRB’s discretion)
  • On or after reaching age 55 or other compulsory age of retirement & worked 10 years with the same employer or companies within the same group
  • Reaching compulsory age of retirement as per employment contract at age 50 but before 55 & worked 10 years with the same employer or companies within the same group
  • Gratuity paid out of public funds
  • Gratuity paid to a contract officer
  • Death gratuity

Other than the above, partial exemption will be given at RM1,000 for each completed year of service.

The balance will be taxed in the year of receipt.

In computing the partial exemption, period of employment with other companies within the same group is NOT REGARDED as a period of employment with the same employer – the partial exemption is only applicable to the gratuity attributable to the service with the last company of the group.

Example:

Mr S worked in the following companies within the same group and received gratuity payments upon his retirement in 2020:

DetailsAB Manufacturing Sdn BhdAB Distributor Sdn Bhd
No of completed years

4 years

1 Jan 2014 to 31 Dec 2017

3 years

1 Jan 2018 to 31 Dec 2020

Gratuity receivedRM40,000RM30,000
Amount exemptednil

RM3,000
(RM1,000 x 3)

The partial exemption is only applicable to the gratuity attributable to the service with the last company of the group.

Amount taxableRM40,000RM27,000
(RM30,000-RM3,000)
Total taxable amount upon receiptRM67,000
(RM40,000 + RM27,000)

The partial exemption for gratuity does not apply to:

  • Sums received from unapproved retirement scheme
  • Gratuities received while still under employment
  • Compensation for loss of employment

Gratuities received in respect of the above will be taxed in full.


Take note of the following when filing tax returns:

1. Update “No. Majikan” to reflect your current employer.

2. Update incentives received (if applicable).

For example:

ERP of RM600 x 6 months received from SOCSO.
Select “Section 127(3)(b)” and enter incentive code “621”.

You may obtain the list of incentives by clicking on “lampiran” as shown in the snapshot below. As an alternative, you may download and refer to the incentive list here.

 

3. Ensure ALL remunerations received from employments are reported.

This should include employment income from your previous and new employer, based on the Forms EA, payslips etc. 

 

4. Update “Bilangan Penggajian”

This should be updated for situations (non-exhaustive) like:

  • You have more than 1 than employment income during the year
  • You are terminated and employed by another company during the year
  • Change of jobs

For example:

Employment income from Company A (terminated during the year) – 1 source
Employment income from Company B (employed in the same year) – 2nd source

 

5. Keep all supporting documents

Ensure that you obtained and keep all Forms EA, payslips (if any), supporting letters etc to be inspected by the IRB in the event of an audit.

Amount disclosed in the Forms EA should be net of tax exemptions as shown in below. 

If in doubt please check with your previous employers or HR or your tax consultants.

Our taxation service cover areas in Ipoh, Kampar, Tapah, Taiping, Chemor, Cameron Highlands, Sitiawan, Manjung, Bidor, Penang, Kedah, Alor Setar, Kelantan, Kuantan, Pahang, Perlis, Terengganu, Kuala Lumpur, Selangor, Melaka, Johor Bahru, Seremban and other areas in Malaysia. 

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