Changes to the UK tax treatment of non-contractual pay in lieu of notice (PILON) come into effect on 6 April 2018.
The law prior to 6th April 2018
Payments made compensating employees for their loss of employment are tax-free up to £30,000. These payments are entirely exempt from National Insurance.
Currently, PILONs included in the employment contract are earnings and subject to income tax and NICs. Non-contractual PILONs are not. Therefore, if an employment contract contains a right to receive a PILON then the payment is of earnings. If the contract merely states that a period of notice is to be given by either party in order to end the employment and a contractual right to a PILON cannot otherwise be inferred, then the payment may be tax exempt up to £30,000 and free of any NIC liability on the whole amount.
Termination changes from 6th April 2018
Payments in Lieu of Notice
All PILONS, on whatever basis they are paid, are treated as earnings and subject to tax and NICs accordingly.
It is assumed that the employee worked through his or her notice regardless of what actually happens. The average value of employee earnings during this notice period will take into account any salary, benefits-in-kind or bonus that the employee would or should have received. The notice period used is 12 weeks until the end of the employment. This is to cover employees who have fluctuating levels of income.
Qualifying termination payments
An employee’s termination payment is effectively divided into two types of payment: payments that can still benefit from the £30,000 threshold and those that cannot. The legislation treats payments such as statutory redundancy or an unfair dismissal award as being subject to the £30,000 threshold.
Employers will have to identify payments that are earnings and any remainder is subject to the £30,000 threshold. In order to determine which post-employment payments will be subject to the exemption, employers will need to refer to the employee’s employment contract and other terms and conditions. Any payment covering part of the existing contractual entitlement, including the notice period, will be earnings.
What about National Insurance Contributions?
Although the ultimate intention is to introduce an employer’s NIC charge on amounts over the £30,000 exemption, this will not come into effect until April 2019. For the period 6 April 2018 to 5 April 2019, therefore, any such payments will be taxable, but NIC-free.
It would be advisable for employers to take this opportunity to review their current termination and redundancy policies to ensure that they are tax and National Insurance compliant.
If you have any questions about these changes or would like to have your policies and procedures reviewed, contact our Employment & HR department today.