The government is consulting on simplifying tax treatment of termination payments

29 July, 2015
by: Cripps Pemberton Greenish

As you may be aware, the current position is that the first £30,000 of any non-contractual termination payment is free of tax and national insurance contributions (NICs). This means that where there is a pay in lieu of notice (PILON) clause in an employee’s contract of employment, their notice pay must be paid less tax and NICs. If the contract of employment doesn’t contain a PILON clause, an employer may be able to make the payment free of tax and NICs as compensation for breach of contract.

The government is now consulting on ways in which they can simplify the tax treatment of termination payments, details of the consultation can be found here. The government is considering the following:

  • Removing the distinction between contractual and non-contractual payments (this would mean, as referred to above, that all PILON payments become tax-free);
  • Changing the fixed £30,000 tax-free sum to an amount which increases the longer an employee has worked (the intention is that this would proportionately reward long-serving, lower paid employees – this could result in a much lower tax-free threshold for many employees);
  • Only providing tax and NICs relief where the termination payment has been made in connection with a redundancy (this includes voluntary redundancy);
  • Introducing a two-year qualifying period (so an employee could not receive a tax-free payment until they have been employed for two years); and
  • Making injury to feelings awards, such as in discrimination cases, subject to tax for some or all of the award (the case law on the tax treatment of these awards is inconsistent but the current position is that they may be paid tax-free).

The consultation will run for 12 weeks from 24 July 2015. Whilst we do not know if or when the above changes will come into force, should they do so it could potentially affect payments already agreed but not yet paid to employees at the point the new legislation is introduced. We will therefore keep you updated on this matter as and when we hear more.