30% reduction on severance pay for mutual agreement terminations

The Directorate General of Taxes (DGT) has issued a relevant ruling regarding the tax treatment of amounts received by workers when the employment relationship ends through a mutual agreement between the company and the employee.

What the DGT has ruled

The query concerned whether the amount received in a mutual agreement termination can be considered employment income obtained in a notoriously irregular manner over time and how it should be declared in Personal Income Tax (IRPF). The DGT has ruled that the amounts paid by the company in this scenario fall into this category.

As they are considered irregular income, if these amounts are imputed in a single tax period, the worker is entitled to apply the 30 percent reduction established in Article 18.2 of the Personal Income Tax Law (LIRPF).

What this means for you

For a worker receiving financial compensation due to the termination of their contract by mutual agreement, this ruling represents an opportunity to optimize their tax burden. The possibility of applying the 30% reduction means that the taxable base used to calculate the tax will be lower, reducing the tax impact of the severance pay received.

It is important to note that the application of this reduction is conditional upon the income being imputed entirely within a single tax year, thereby meeting the requirement of irregularity over time required by current regulations.

What you should do

In a situation involving contract termination by mutual agreement, it is essential to analyze the nature of the amounts to be received. It is recommended to:

• Verify that the amount received fits the criteria for irregular income according to LIRPF regulations.
• Ensure that the imputation of the amount is made in a single tax period to maintain the right to the reduction.
• Assess each particular situation, as the application of this ruling depends on the specific circumstances of the employment termination.