Severance Pay Entitlements for Independent Contractors: Tax Implications and Legislative Framework

Severance Pay Entitlements for Independent Contractors: Tax Implications and Legislative Framework

• 01 June 2025
• Administration of Estates
• The Tax Faculty

This article is based on tax law for the year ending 29 February 2026.

Question:

The issue at hand is whether an independent contractor qualifies to receive severance pay upon termination of their contract, and the associated tax implications in terms of applicable South African legislation.

Answer:

Background / Facts

The issue at hand is whether an independent contractor qualifies to receive severance pay upon termination of their contract, and the associated tax implications in terms of applicable South African legislation.

Tax Issues Identified

The primary issue is the legal distinction between an employee and an independent contractor, as this determines eligibility for severance pay. Severance pay is a statutory benefit granted to employees, and does not typically extend to independent contractors. In addition, the taxation of any termination payment made to an independent contractor must be considered — specifically whether it constitutes remuneration, gross income, or another taxable category in terms of the Income Tax Act.

Relevant Tax Provisions

The key legislative references are as follows:

• Definition of "employee" and "remuneration" — Income Tax Act 58 of 1962, sections 1 and 11, and the Fourth Schedule
• Taxation of severance benefits — Income Tax Act, section 1 (definition of “severance benefit”) and paragraph 2 of the Second Schedule
• Distinction between employment and independent contracting — Fourth Schedule to the Income Tax Act, section 1
• SARS Interpretation Note 17 (IN17) — Interpretation of independent contractor status

Application of the Law to the Facts

In terms of the Basic Conditions of Employment Act (BCEA), severance pay is only payable to employees who are retrenched due to operational requirements. Independent contractors are not classified as employees under the BCEA and therefore have no statutory entitlement to severance pay.

Similarly, for tax purposes, section 1 of the Income Tax Act defines a “severance benefit” as a payment made to an employee in consequence of retrenchment or employer-initiated termination. Accordingly, a termination payment made to an independent contractor does not meet the definition of a severance benefit under the Act. Instead, such a payment may fall within the scope of gross income, depending on its nature — for example, if it constitutes consideration for services rendered or compensation for cancellation of a contract.

Depending on the circumstances, a termination payment to an independent contractor may:

• Attract VAT if the contractor is a registered VAT vendor and the payment relates to taxable supplies;
• Be included in gross income and taxed under normal principles, without the preferential tax treatment afforded to statutory severance benefits;
• Not constitute “remuneration” for PAYE purposes, as defined in the Fourth Schedule to the Income Tax Act, due to the absence of an employment relationship.

Conclusion

Independent contractors are not entitled to severance pay under South African labour or tax law. Any termination-related payment made to an independent contractor should be evaluated to determine its true nature and taxed accordingly in line with general tax principles.

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