The government and
HMRC are considering changing the rules surrounding termination payments made
to employees. The proposals follow a
review by the Office of Tax Simplification which concluded that the current
system is ‘fraught with confusion and uncertainty.’ The intention is to simplify the rules whilst
increasing certainty for employees regarding the payment they will receive if
they lose their job. For employers these changes are likely to lead to
the distinction between contractual and non-contractual pay in lieu of notice
the income tax and NIC treatment of termination payments; and
the £30k tax free cap (probably downwards).
We do not yet have
final details, but the government are considering applying a tax exemption only
to payments made to employees with two or more years’ service. The amount of the exemption is also
undecided, but the government suggests that it should be reduced from the
current level of £30,000 and set in bands reflecting the length of service of
the employee concerned. The final part
of the proposals is that the tax exemption should only be available where the
termination is wholly or mainly due to redundancy.
We may not yet have
all the answers, but this review reminds employers that it is important to
consider whether or not to include a PILON in employment contracts.
Currently, when a
PILON clause is included, the termination payment will be subject to tax and
NICs. When there is no such clause, the
payment will be tax and NIC free (up to the current tax free cap). If employers based their contractual terms on
tax treatment alone it would therefore make sense not to include a PILON in a
contract of employment. However, there
are other factors to consider. Most notably,
without a PILON clause, any attempt to terminate employment without giving
notice could result in a breach of contract claim and will invalidate any
continuing obligations under the contract such as restrictive covenants and
confidentiality provisions. It is also
possible to limit an employer’s liability on termination in the PILON to basic
salary only in respect of the notice period, avoiding potentially costly payments
such as bonus, car allowances, insurance benefits and commission during the
As with most things
in life, the PILON comes with pros and cons.
Employers may wish to revisit their contracts when the government
introduces the new rules on termination payments.