The taxation of termination payments changed on 6 April to prevent manipulation of the system.
Employers will now need to pay income tax and Class 1 National Insurance contributions (NICs) on the amount of the termination payment that represents payment in lieu of notice (PILON). This is regardless of whether this is a contractual payment.
The change applies to payments, or benefits received on, or after, 6 April 2018 in circumstances where the employment also ended on, or after, 6 April 2018. It follows an announcement made in the 2016 Budget that the government would introduce rules to prevent employers from manipulating the system.
The measure is intended to bring greater clarity to the taxation of termination payments by making it clear that all PILONS are taxable earnings. All employees will pay income tax and Class 1 NICs on the amount of basic pay that they would have received if they had worked their notice in full, even if they are not paid a contractual PILON.
As a result of the change, the tax and NICs consequences should be the same for all employees, regardless of how the employment contract is drafted or whether payments are structured in a different form.
In addition to the changes to PILONs, foreign service relief on termination payments has been removed for all UK residents, apart from seafarers. UK residents whose employment ends after 6 April 2018 who receive a payment or benefit in connection with that termination made after 13 September 2017, will not be eligible for tax relief for any period of foreign service as part of that job.
Further changes to the taxation of termination payments include introducing Class 1A NIC employer charges on termination payments of more than £30,000 and on sporting testimonials of more than the £100,000 lifetime exemption. However, due to a delay in legislation, these two provisions are now due to come into effect in April 2019.
