Is Separation Pay Taxable for an Employee Aged 65?

A comprehensive guide under Philippine tax rules

Quick answer

Age does not determine the taxability of separation pay. What matters is why the employee was separated. If the separation is for causes beyond the employee’s control (e.g., redundancy, retrenchment, closure, disease) or because of death, sickness, or other physical disability, the separation benefits are excluded from gross income and not subject to income tax or withholding tax. If the payment is actually a retirement benefit, separate rules apply—often tax-exempt if statutory conditions are met. If the employee resigns or is separated for causes attributable to the employee, the payout is taxable.

Legal framework you should know

National Internal Revenue Code (NIRC), Sec. 32(B)(6)(b) Excludes from gross income “any amount received by an employee or by his heirs from the employer as a consequence of separation of such employee for any cause beyond the control of the employee, such as retrenchment, redundancy, closure, or due to death, sickness, or other physical disability.”
NIRC, Sec. 32(B)(6)(a) (Retirement benefits under a reasonable private benefit plan) Retirement benefits are tax-exempt if (i) paid under a BIR-registered “reasonable private benefit plan,” (ii) the employee is at least 50 years old and has at least 10 years of service (or meets the plan’s stricter rule), and (iii) avails only once.
Labor Code and RA 7641 (Retirement Pay Law) Sets mandatory retirement at 65 (unless a different age is validly set by a plan/CBA) and the minimum retirement pay formula. Retirement pay mandated by law (i.e., RA 7641) is generally tax-exempt under Sec. 32(B)(6)(a), even without a private plan.

Takeaway: “Separation pay” and “retirement pay” are distinct. Each has its own tax rule. Mislabeling a retirement benefit as “separation pay” (or vice-versa) won’t change the tax result if the facts show otherwise.

Core rule on separation pay (age is irrelevant)

Separation pay is not taxable if the separation is:

Due to causes beyond the employee’s control, including:
- Redundancy or installation of labor-saving devices
- Retrenchment (to prevent losses)
- Closure or cessation of business not due to serious losses (if due to serious losses, separation may still be paid as a matter of policy/contract)
- Disease (termination on health grounds, medically certified)
Due to death, sickness, or other physical disability.

Separation pay is taxable if the separation is:

Voluntary (e.g., resignation, voluntary separation packages not tied to authorized causes)
For just causes attributable to the employee (e.g., serious misconduct), noting that separation pay is typically not due in these cases unless provided by policy/settlement.

Being 65 years old neither makes separation pay taxable nor tax-exempt. It only tends to indicate a retirement scenario rather than a separation one.

How “age 65” fits in: retirement vs. separation

A. If the 65-year-old is retired (not “separated”)

Tax result: Retirement benefits are generally tax-exempt if:
- Paid under a BIR-registered private retirement plan and the employee meets the age (≥50), tenure (≥10 years), and one-time rule; or
- Paid as statutory retirement under RA 7641 (mandatory retirement), which is treated as exempt retirement pay under Sec. 32(B)(6)(a).
Label check: Calling a mandatory-retirement payout “separation pay” doesn’t make it taxable if the facts show it’s retirement.

B. If the 65-year-old is separated (not “retired”)

Tax result: Still exempt if the separation is for authorized causes/beyond control (redundancy, retrenchment, closure, disease, etc.) or due to death/sickness/disability.
Taxable if the departure is voluntary or attributable to the employee.

What employers and employees should document

To support tax-exempt treatment, keep clear, contemporaneous documentation:

Board or HR resolutions / notices stating the specific authorized cause (redundancy, retrenchment, closure, disease) and effective date.
Disease cases: Medical certificate stating the nature of illness, incapacity to continue work within 6 months even with proper medical treatment, and recommendation for separation.
Redundancy/retrenchment: Business records showing good-faith business necessity (organizational charts, financials or loss-prevention analysis, selection criteria).
Computation sheet for the separation benefit, following Labor Code minimums (see below).
Release, waiver, and quitclaim (if used) showing consideration paid and that the cause matches the documentation.
Payroll/withholding workpapers showing no withholding on exempt separation pay and proper treatment of other terminal items.

Labor minimums (for context; tax follows the cause)

Redundancy / labor-saving devices: At least one (1) month pay or one (1) month pay per year of service, whichever is higher.
Retrenchment / closure not due to serious losses / disease: At least one (1) month pay or one-half (1/2) month pay per year of service, whichever is higher.
Fraction of at least six (6) months is typically considered one whole year.

These are labor rules that influence the amount, not the tax status. Tax status is driven by the cause and statutory exclusions.

Withholding, reporting, and forms

Exempt separation pay:
- Do not subject to withholding tax on compensation.
- Exclude from taxable wages in the employee’s BIR Form 2316 totals; you may disclose under “non-taxable/Exempt compensation” lines as applicable.
- Not subject to Fringe Benefits Tax (FBT).
Taxable payouts at separation (examples):
- Resignation pay or ex gratia amounts not tied to authorized causes → Taxable and subject to withholding.
- 13th-month and other benefits paid upon separation: Exempt only up to the statutory ceiling (currently ₱90,000); any excess is taxable.
- Monetized unused vacation leave in the private sector: Exempt up to 10 days as de minimis; excess is taxable. Monetized sick leave is generally taxable (private sector).
- Backwages/commissions and other earned compensation: Taxable.
Employer books: Keep schedules reconciling exempt separation pay vs taxable terminal pay for audit readiness.

Common real-world scenarios

Company closes a division; 65-year-old receives separation pay labeled ‘redundancy.’
- Tax: Exempt. Cause is beyond control; age is irrelevant.
Employee turns 65 and receives a payout under RA 7641 (mandatory retirement).
- Tax: Exempt as retirement pay under Sec. 32(B)(6)(a) / RA 7641. Not separation pay.
Voluntary early-out program open to all ages; employee age 65 opts in; package is labeled ‘separation pay.’
- Tax: Likely taxable unless the program is expressly connected to an authorized cause (e.g., retrenchment due to losses) and the employer documents the cause. Merely being 65 doesn’t create exemption.
Termination due to disease at age 65 with medical certification.
- Tax: Exempt separation pay (death/sickness/disability category).
Dismissal for just cause at age 65, followed by a settlement amount.
- Tax: Settlement amounts that are in the nature of compensation (not damages for personal injury) are generally taxable. Facts control.

Practical compliance checklist (employer)

Identify the true cause (retirement vs separation; authorized cause vs voluntary).
Align the paper trail (HR notices, board resolutions, medical certificate, computation).
Classify each terminal item: exempt separation/retirement vs taxable compensation.
Apply withholding only to the taxable items; no withholding on exempt separation/retirement benefits.
Reflect amounts properly in Form 2316 and year-end reports; keep workpapers.

FAQs

Is a 65-year-old’s separation pay automatically tax-exempt? No. Exemption depends on cause, not age. If it’s due to authorized causes or death/sickness/disability, it’s exempt. If it’s a retirement at 65, that’s exempt under retirement rules. If it’s a resignation or voluntary package without authorized cause, it’s taxable.

We called it ‘separation pay,’ but it’s really mandatory retirement at 65. Tax-exempt? Yes, if the facts show retirement under RA 7641 or an approved plan, the benefit is retirement pay and exempt, regardless of label.

What if the employee already enjoyed tax-exempt retirement once before? The “once-only” rule applies to private-plan retirement under Sec. 32(B)(6)(a). A statutory RA 7641 retirement at mandatory age is generally treated as exempt even without a private plan. Separation pay exemptions under Sec. 32(B)(6)(b) are not limited to once; they hinge on cause.

Do we need a BIR ruling for exempt separation pay? Not required by law, but proper documentation is essential. Some employers obtain confirmatory rulings for large programs, but solid evidence of the authorized cause is typically sufficient.

Bottom line

For a 65-year-old employee, taxation turns on what happened, not age:

Mandatory retirement or qualified plan retirement → Exempt retirement pay.
Separation for authorized causes or due to death/sickness/disability → Exempt separation pay.
Resignation/voluntary package or causes attributable to the employee → Taxable.

When in doubt, scrutinize the cause, secure the documentation, and apply the specific exemption the facts support.