Termination payments which are provided for in the employment contract are by definition paid under that contract, and are taxable. Payments in lieu of notice (PILON) which are not provided for in the employment contract are currently not taxable if the amount paid falls within the £30,000 exemption.
Where a PILON is paid on or after 6 April 2018, and the employment also ended on or after that date, the payment will be taxable and subject to employer’s NIC. The £30,000 exemption remains in force, but it can only apply to the elements of the termination payment which are not PILON. This may be a lump sum, benefits in kind, damages for loss of salary and other benefits, or statutory redundancy.
Currently, where the £30,000 exemption applies, the whole termination payment including the amount above the £30,000 limit, is free of employer’s NIC. For termination payments made on or after 6 April 2018, only the first £30,000 can be free of employer’s NIC.
Another little-known tax exemption for termination payments is for foreign service. The value of the termination payment escapes tax in proportion to the period the employee spent working overseas for that employer. This relief for foreign service is removed for UK resident employees on 6 April 2018, but remains in place for seafarers. The tax exemption for legal fees paid as part of a settlement agreement on termination remains in place.
Applying the correct tax treatment to termination payments can be quite tricky. Our employment tax experts are always happy to advise, but don’t leave it too late as 6 April 2018 is an absolute deadline.
For further information see Employer Bulletin No. 70