Severance Payment Calculation in Ethiopia

Introduction

This tutorial will guide you through the process of calculating severance payments and taxes in Ethiopia, as outlined in the video by Practical Accounting Executive. Understanding severance payments is crucial for both employers and employees, as it helps in planning for financial transitions. This guide will break down the calculation process, provide examples, and clarify the relevant tax regulations.

Step 1: Understand Severance Payment Calculation

Severance payments in Ethiopia are typically calculated based on the employee's length of service and their final salary. The following factors are integral to the calculation:

• Length of Service: The total number of years the employee has worked with the company.
• Final Salary: The employee's monthly salary at the time of termination.

Calculation Formula

1. Base Severance Pay: Generally, it is calculated as one month’s salary for each year of service.
2. Example Calculation:
   • If an employee worked for 5 years and their final salary is 20,000 ETB:
     • Severance Pay = 5 years × 20,000 ETB = 100,000 ETB

Step 2: Tax Calculation on Severance Payment

Once the gross severance payment is determined, it is important to understand how taxes are applied. In Ethiopia, severance payments are subject to income tax.

Tax Brackets and Rates

• Familiarize yourself with the current tax brackets, as they can change annually. As of the latest updates, the tax rates are generally structured as follows:
  • 0% on income up to a certain threshold
  • 10% on the next portion of income
  • 15% on the following portion
  • Higher rates for larger amounts

Example Tax Calculation

1. Calculate Taxable Income:
   • For the 100,000 ETB severance pay, determine which tax bracket it falls into.
2. Apply Tax Rates:
   • If the first 30,000 ETB is tax-free, and the next 30,000 ETB is taxed at 10%, and the remaining 40,000 ETB at 15%:
     • Tax on 30,000 ETB = 0 ETB
     • Tax on next 30,000 ETB = 30,000 ETB × 10% = 3,000 ETB
     • Tax on remaining 40,000 ETB = 40,000 ETB × 15% = 6,000 ETB
   • Total Tax = 3,000 ETB + 6,000 ETB = 9,000 ETB

Step 3: Final Severance Payment Calculation

Now that you have both the gross severance payment and the taxes calculated, you can determine the net severance payment.

Calculation of Net Severance Payment

1. Net Severance Pay:
   • Subtract the total tax from the gross severance pay.
   • Using the previous example:
     • Net Severance Pay = 100,000 ETB - 9,000 ETB = 91,000 ETB

Conclusion

In this tutorial, we covered the essential steps to calculate severance payments and the corresponding taxes in Ethiopia. Remember to always check for the most recent tax brackets, as they can change. For employers, accurate calculations are vital for compliance, while employees should understand their entitlements during transitions. If you have further questions or need assistance, consider consulting with a financial advisor or accountant familiar with Ethiopian labor laws.