In June 2022, the Hong Kong Legislative Council passed the Employment and Retirement Schemes Legislation (Offsetting Arrangement) (Amendment) Ordinance 2022 (the Ordinance), which will abolish the use of accrued employer’s mandatory MPF contributions to offset long-service payment (LSP) or severance payment (SP) payable to an employee. In April 2023, the Hong Kong Government announced that this change will take effect on 1 May 2025.
This article provides an overview of the upcoming changes and transitional arrangements related to the abolition of the MPF offsetting mechanism.
The law in this respect is complex. Please note that this article does not, and is not intended to, constitute legal advice, and should not be relied upon as such. Slotine can assist you with the calculation of LSP/SP entitlements and issues surrounding employment termination. Please contact us if you wish to learn more about this.
THE EXISTING MPF OFFSETTING MECHANISM
The current offsetting mechanism authorises employers to use their accrued MPF contributions to offset any statutory LSP/SP payable to an employee.
The Hong Kong MPF system
The MPF is a mandatory privately managed pension fund where employers and employees are required to make contributions. Both the employer and the employee are required to contribute 5% of the employee’s relevant income (capped at HK$1,500 per month) to the employee’s MPF account each month (Mandatory Contributions). In addition, employers and employees may make voluntary MPF contributions (Voluntary Contributions) in excess of the Mandatory Contributions.
Entitlement to statutory long service or severance payment
In Hong Kong, LSP and SP are statutory entitlements provided to an employee for termination protection under the Employment Ordinance (Cap. 57) subject to the satisfaction of certain conditions:
- LSP is payable if an employee has been employed continuously for at least five years and is terminated by the employer for any reason other than redundancy or gross misconduct, passes away or resigns because they are permanently unfit for the work or reaches 65 years old;
- SP is payable if an employee has been employed continuously for at least two years and is made redundant or laid off by the employer.
An employee cannot be entitled to both LSP and SP.
The same statutory calculation formula applies to both LSP and SP:
2/3rd of last full month’s wages (capped at 2/3rd of HK$22,500) x years of service
Based on this formula, if the employee’s last month’s wages exceed HK$22,500, the payment will be capped at HK$15,000 per year of service. Any incomplete year of service is calculated on a pro-rata basis. In any event, the maximum amount of LSP/SP is capped at HK$390,000.
The existing mechanism in practice
Currently, upon termination of an employee, the employer can withdraw accrued MPF contributions made by the employer during the employment relationship to pay that employee’s LSP/SP. However, the employer cannot use the MPF contributions made by the employee. In practice, when the accrued employer MPF contributions are sufficient to cover the full amount LSP/SP payable, employers often do not need to pay any LSP/SP out of the employer’s funds.
The employers can use the offsetting mechanism as follows:
- if the LSP/SP has already been paid to the employee, the employer can apply for a refund of the LSP/SP from the MPF trustee; or
- if LSP/SP has not yet been paid to the employee, the employee can apply with the trustee for withdrawal of the employer’s MPF contributions directly.
In cases where the employer’s accrued MPF contributions are not sufficient to cover LSP/SP in full, the employer must pay the shortfall directly from the employer’s funds.
CHANGES INTRODUCED WITH EFFECT FROM 2025
After the abolition of the MPF offsetting mechanism, employers will no longer be authorised to use the accrued Mandatory Contributions to offset an employee’s LSP/SP. In practice, this means that an employee’s retirement funds will no longer be reduced to cover LSP/SP. Instead, employers will bear the financial burden of LSP/SP and pay out the funds to the employee directly.
Transitional arrangement for employees who commenced employment before 1 May 2025
There is a risk of large-scale dismissals before the change becomes effective due to the fact that, after 1 May 2025, employers will need to bear the financial burden of LSP/SP directly. In order to minimise this risk, the Ordinance introduces transitional arrangements. For an employee who commenced employment before 1 May 2025 but is terminated after 1 May 2025:
- the employer can continue to use their accrued MPF contributions (both Mandatory and Voluntary Contributions made before or after 1 May 2025) to offset an employee’s LSP/SP entitlements in respect of the employment period before 1 May 2025; and
- the employer can only use their accrued Voluntary Contributions to offset an employee’s LSP/SP entitlements in respect of the employment period between 1 May 2025 and the termination date.
New rules for employees commencing employment after 1 May 2025
In the case of an employee who commences employment after 1 May 2025, upon termination, the employer can no longer use their accrued Mandatory Contributions to offset the employee’s LSP/SP entitlements. However, the employer can continue to use their accrued Voluntary Contributions and any gratuities offered under the employment contract based on the employee’s length of service to offset the amount of LSP/SP.
Government support plan for employers
As the abolition of the MPF offsetting mechanism will increase the financial burden on employers, the Hong Kong Government will launch a 25-year Government subsidy scheme of HK$33.2 billion.
Under this subsidy scheme, the Government will subsidise the cost of LSP/SP: after paying LSP/SP to an employee, the employer will be able to submit an application for partial reimbursement in the form of a Government subsidy. In practice, an employer’s LSP/SP liability will be capped at HK$3,000 per employee during the first three years (provided that the total LSP/SP liability of the employer doesn’t exceed HK$500,000 per year). From the fourth year onwards, the subsidised amount will be reduced progressively. Full details of the subsidy scheme are available on the Labour Department’s website.
KEY TAKEAWAYS
- The abolition of the MPF offsetting mechanism will have no retrospective effect:
- for an employee who started employment before 1 May 2025 but is terminated after 1 May 2025:
- the employer can use their accrued Mandatory and Voluntary Contributions made before or after 1 May 2025 to offset LSP/SP in respect of the employment period before 1 May 2025; and
- the employer can use their accrued Voluntary Contributions only to offset LSP/SP in respect of the employment period between 1 May 2025 and the termination date;
- for an employee who starts employment and is terminated after 1 May 2025, the employer can only use their accrued Voluntary Contributions to offset LSP/SP.
- for an employee who started employment before 1 May 2025 but is terminated after 1 May 2025:
- No changes are introduced to the MPF contribution requirements, nor to the eligibility criteria and calculation methods for LSP/SP.
- From an accounting perspective, employers are advised to consult with their accountants and auditors to assess whether provisions should be made in their financial statements to reflect the future potential LSP/SP liability.
If you need help or advice regarding employment-related disputes, get in touch with us.
