Taxing holiday pay
What holiday pay is
Holiday pay is pay for:
- an employee's annual leave, and
- statutory holidays.
How to tax holiday pay
Holiday pay and pay for statutory holidays are included as earnings in the period that you actually pay them to your employees. How you calculate tax on holiday pay depends on how you pay it to them.
Holiday pay in employee's regular pay
If the holiday pay is paid:
- instead of the employee's regular pay when the employee takes annual leave, or
- as part of an employee's regular pay at the rate of 8% of their gross earnings
you can use the PAYE calculator to work out the amounts to deduct for:
- student loan repayments, and
- KiwiSaver deductions, as well as any KiwiSaver employer contribution amounts and the ESCT to be deducted that you are required to pay.
Holiday pay as a lump sum
Where the holiday pay is paid as a lump sum in addition to the employee's regular pay in a pay period, it will be taxed as an an extra pay. This includes where:
- the holiday pay is paid as a lump sum before the holiday is taken (holiday pay paid in advance)
- the remaining balance of the employee's leave entitlement is paid as a lump sum at the end of their employment
- there is any "cashed in" annual leave.
Find out about taxing lump sum payments
From 1 April 2018, if you pay your employee holiday pay in advance as a lump sum, you can choose to tax this payment either:
- as a lump sum extra pay, or
- as if the lump sum was paid to the employee in their regular pay cycle over the pay periods that their holiday covers. This is called the "alternative approach" - see below. You can also use the alternative approach when taxing a lump sum payment of salary/wage paid in advance.
Using the alternative approach
If you choose to tax a lump sum payment of holiday pay paid in advance using the alternative approach, you calculate it like this:
- Apportion the lump sum payment across the pay period/periods it relates to based on your employee's regular hours of work.
- Calculate PAYE on the amount for each pay period as if it were the only payment of salary/wage made to the employee in that pay period (you can use the PAYE calculator to work this out for each pay period).
- Add the PAYE amounts from each calculation together. This is what you deduct from the lump sum payment of holiday pay.
If your employee is a member of KiwiSaver or has a student loan
These deductions and repayments will be calculated on the lump sum as a whole, even if you choose to calculate PAYE using the alternative approach.
For example, student loan deductions will be 12 cents in every dollar above the pay period threshold on the whole lump sum payment made to the employee, not on each pay period calculation used to work out the PAYE.
When the whole pay period is not taken as annual leave
If the whole pay period is not taken as annual leave, the PAYE deducted from the holiday pay needs to be taken into account when calculating the PAYE to cover that pay period. This can happen if an employee takes annual leave for part of a pay period and returns to work as normal for the remainder, and the payment of holiday pay was taxed using the alternative approach. The PAYE on the payment of salary/wages for the pay period would be calculated like this:
- Add together the holiday pay that was apportioned to the pay period and the regular salary/wages that will be paid to the employee for their work in the pay period.
- Calculate the amount of PAYE required to be withheld from the combined amount for the pay period as if it were a single payment. This is the total PAYE payable for the pay period.
- Subtract the amount of PAYE that was deducted from the holiday pay apportioned to that pay period from the amount of PAYE calculated in step 2. The amount you are left with is the amount of PAYE to be deducted from the payment of salary/wages for the pay period.
Example of the alternative approach
Your employee is taking 3 weeks annual leave and has requested that you pay their holiday pay in a lump sum before they take their leave. Their pay cycle is fortnightly and they are using the "M" tax code. Their regular fortnightly pay is $1,492. Three weeks holiday pay will be $2,238. To calculate PAYE on this using the alternative approach:
- Apportion the $2,238 holiday pay across the pay periods that the leave covers. As this covers 3 weeks, and 2 fortnightly pay periods, this will be $1,492 apportioned to the first fortnight and $746 apportioned to the second.
- Calculate the PAYE on:
- $244.14 (the first fortnight's holiday pay of $1,492)
- $103.22 ( the second fortnight's pay of $746)
- Add the two PAYE amounts together ($244.14 + $103.22). This gives the PAYE to withhold from the payment of the holiday pay.
Total net holiday pay: $1,890.64. Total PAYE to withhold: $347.36
The last week of annual leave covers the first week of a fortnightly pay period. The second week of that pay period is worked as usual by the employee. The PAYE on the portion of salary/wages paid to the employee would be calculated as follows:
- Calculate PAYE on the total amount paid to the employee, including both the week worked and the weeks holiday: $244.14 (PAYE on fortnight's pay of $1,492)
- Minus the PAYE already deducted (for the week that was taken as annual leave) from the lump sum payment: $244.14 - $103.22
- The amount remaining is the PAYE to withhold from the payment for the week worked $746 is $140.92 ($244.14 - $103.22).
How holiday pay works with payday filing
If you use payday filing to send us your employment information, you can treat holiday pay paid in advance:
- as a lump sum, as if it was paid over the pay period the leave relates to, reducing the chance your employees being overtaxed, or
- as an extra pay.
If you need to make additional payments for a pay period the leave relates to, you'll need to work out PAYE based on all the earnings for that period, then minus the PAYE you've already collected, and deduct the remaining PAYE amount. This applies to pay periods where both leave has been taken and work has been completed.
It's your choice as an employer which option you choose, but you should find out what option your software supports. You should continue to treat salary and wages paid in advance the same way you would treat holiday pay.
Find out more