Facing retrenchment

We stand apprehensive in facing retrenchment episodes and rising unemployment under the continuing stretch of the global economic crisis. Hundreds of thousands of workers are being laid off from work in different parts of the world. Even more disconcerting is the fact that this global crisis is also reflected locally. The number of retrenched workers in the Philippines is increasing at an alarming rate.

Amidst these retrenchment woes, one can look at the more practical consequences of retrenchment. The ordinary worker might begin with this in mind: “What are my legal claims if retrenched from employment?” This question is addressed by the Philippine statutes. If it is at all a sigh of relief to the retrenched employee, compensation at retrenchment is generally not subject to tax. 

What is retrenchment? Retrenchment or lay-off of employees is one of the legal grounds for termination of employment. The procedures and requisites of a valid retrenchment are laid down by Article 283 of the Labor Code. During periods of business recessions, reduction of personnel to prevent losses is recognized as a prerogative of the employer. Being such, what is then to be considered legally due to the retrenched employee? 

Separation pay

Under a valid retrenchment action, the retrenched employee is entitled to a separation pay equivalent to one month pay or at least one-half month pay for every year of service, whichever is higher, a fraction of at least six months being considered as one whole year. Following this rule, a three-year length of service will entitle the employee to a separation pay equivalent to one and a half month salary based on the employee’s latest salary rate.

Take the case of a regular employee whose monthly salary rate is P20,000 and is on his third year of service (or 36 months of employment). At this stage in employment, he should receive as separation pay, the minimum amount of P30,000 (1/2 x P20,000 x three years), which is higher than his one month salary.   

The separation pay an employee receives as a consequence of his retrenchment or involuntary separation from the service of his employer is not subject to income tax.

Final salary

The employee has the right to demand for the payment of any unpaid compensation. This may include but is not limited to salaries, wages, commissions, allowances, and similar benefits for services that are deemed to have been performed by the employee for his employer prior to his dismissal from the service. Simply put, the employee is entitled to a final salary payment upon his dismissal from service.

However, any such amount received as salaries or compensation are subject to income tax and consequently, to withholding tax on compensation.

Pro rata bonus

The retrenched employee, provided that he has worked for at least one month during the calendar year, has a claim for a pro rata payment of bonus (13th month pay). This is reckoned from the beginning of the year up to the effective dismissal date.     

The first P30,000 of any proportionate 13th month pay is exempt from income tax, the same being treated as an exclusion from the gross income under Section 32(B)(7)(e) of the Tax Code of 1997.

Earned leaves

At the effective termination date, employees may have accumulated unused incentive leave credits (as ‘vacation allowances’ or ‘sick leave credits’), which may be monetized depending on their employer’s policy. 

Leave pay, which is received by the employee on the occasion of retrenchment, is exempt from income tax. 

Earnings from employee benefit plans

Other than entitlement to pension or retirement pay at compulsory retirement age, employees are often granted participation in benefit plans that are of contributory type. By way of these schemes, employees contribute a fixed percentage of their monthly salary to a private pension or trust fund with the employer matching these contributions. Depending on the benefit plan rules and the employee’s contract, receipt of earnings from employee benefit plans may also be relevant at termination of employment.

Any amount received by the employee under benefit plans approved by the Bureau of Internal Revenue is not subject to tax under certain conditions, particularly where the employee-recipient has been in the service of the same employer for at least 10 years and is not less than 50 years of age at the time of his retirement. 

The law seeks to provide due compensation for the retrenched employee. But there are no specific rules that can be laid down for every retrenchment situation. In determining an equitable payment scheme to retrenched employees, the minimum standards under the law should underlie the company’s termination policy which employees should be aware of.

We all hope that the world economy will soon recuperate. But if worse comes to worst, it would be beneficial for employees to know what to expect when facing retrenchment.

(Karen Jane S. Vergara-Manese is a Manager for Tax & Corporate Services of Manabat Sanagustin & Co., CPAs, a member firm of KPMG network of independent member firms affiliated with KPMG International, a Swiss cooperative.

The views and opinions expressed herein are those of Karen Jane S. Vergara-Manese and do not necessarily represent the views and opinions of KPMG in the Philippines. For comments or inquiries, please email [email protected] or [email protected]).