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Taxation of Termination Payments

A number of changes to the tax treatment of payments made on the termination of employment will come into effect from 6 April 2018.

Payments in lieu of notice ("PILON")

It is historically tricky to determine whether all or part of a termination payment is in respect of a contractual PILON (and therefore taxable) or not. It could depend on factors such as whether there was an express PILON in the contract, whether it was discretionary or whether it was customary for the employer to pay a PILON.

From 6 April 2018, all termination payments will include a taxable amount in respect of the notice period which would have been served, even if there is no contractual PILON. An amount of salary that the employee would have received had he or she worked their notice period is subject to income tax and NICs. The balance is then subject to the general termination payment rules (and potentially the £30,000 exemption).

Payments for injury to feelings

The exemption for payments made because of the death, disability or injury of an employee will expressly not include compensation for injury to feelings.

Foreign service exemption

This exemptions (which could eliminate or reduce the tax payable on a termination payment where all or part of the employment contract was performed abroad) are being abolished for UK resident employees.

National insurance contributions (now delayed until April 2019)

The current position is that where a payment is subject to the exemption for the first £30,000, there are no NICs on that payment, even though income tax is payable on the amount above £30,000.  

That is changing such that the £30,000 exemption also applies to NICs, above which NICs will be payable. This will align the NICs with the income tax treatment.

In some sense, some of these changes are welcome because of the uncertainty that had built up around how certain termination payments should be treated (such as PILONS). However, they will generally mean more tax is payable than would have been the case before the changes were made.