If you terminate an employee in Belgium you will often need to pay a severance indemnity. This is calculated in part by reference to the employee’s pay for his notice period. It is calculated on the “full salary”, including not just base salary, 13th month and vacation pay, but also all other benefits enjoyed by the employee in the framework of their employment. This includes the employer’s contributions to the pension scheme over the course of the 12 months prior to termination.
In practice, this seemingly small element can sometimes cause unpleasant surprises: often, at the time when the first rough severance computation is done, the amount of the pension contributions is not known, or is even overlooked entirely. When this component is added in a later stage, it can materially inflate the severance indemnity if the pension plan is generous, which is often the case for older plans and/or plans for senior managers, where employer contributions of up to 10-15 % are not uncommon.
This indemnity is taxed quite heavily:
- the severance payment is taxed at the average income tax rate of the employee’s last year of regular employment (often the year prior to the termination).
There is a more tax efficient way to deal with this payment, and that is to make a lump sum payment into the pension scheme equal to the amount of the employer’s pension contributions for the indemnity period (additional parts of the indemnity cannot be treated in this same tax-advantageous manner). That option exists for both defined contribution and defined benefit plans. The tax benefits are considerable:
Sounds like a no-brainer, but as always there are a couple of ifs and buts:
- Paying the pension contributions into the pension plan instead of as part of the severance payment is possible only if the pension plan rules allow it. If your plan rules do not provide this option yet, an amendment of the rules will be required to allow this option. That is a simple enough procedure, but it takes some time (see paragraph 3 below), so it is advised to look into this matter proactively, well before you’re planning any redundancies with hefty severance payments.
- If the option is included in the plan rules, it will apply to all employees who are made redundant. It is not a choice that the employee gets to make – employees cannot opt out and take the severance payment route. If the pension plan rules permit this sort of payment, it is in effect actually then required.
- If this blog inspires you to explore this option and change the company plan rules, please also consider that every change to the plan rules needs to be the topic of prior consultation with the employee representatives in your company. In Belgium this is the Works Council, or if there is none, the Health & Safety Committee, or in the absence of that too, the union delegation. The consultation allows the employee representatives to tender their non-binding advice on the proposed change, but no more: they can opine that it’s the worst idea that was ever brought to them, and you can still power through, but you need to have obtained this (written) input from them before doing so.
If you do not request this advice, the decision to change the plan rules may be nullified by employee challenge within the year after it was taken.
In companies without employee representation, the consultation is replaced by an obligation to inform the employees prior to making the change.
If you are tempted by the option of changing your plan rules, this may also be the time to give them a wider scan-through to ensure that they are still up to date and continue to meet the needs of the company in terms of its remuneration policy. We will of course be happy to assist you in this exercise.