When an employee leaves a job, the usual arrangement is that they work out the notice period stipulated in their contract. The average notice period is one month, but it can be as little as a week, or even as long as six months in some senior roles.
However, there are occasions when an employer wishes to terminate employment with immediate effect, and will compensate the soon-to-be ex-member of staff with a termination payment, also known as PILON (payment in lieu of notice).
This can be beneficial for the employer since it quickly removes the employee from the business, away from customers and confidential information, while ensuring that the contract is terminated lawfully.
Until April this year, if there was no express PILON clause in an employer’s contract, any termination payment up to £30,000 could be made tax free. The exception would be if there was an expectation the employer would make a PILON, then this could still be taxable. At the start of the new financial year (6 April 2018), HMRC brought in changes to this system which in effect removes the tax advantages of the old system. Any payments in lieu of notice will now be taxed as earnings, with PAYE and NICs payable.
The idea, says HMRC, is to simplify the regulations and make them fairer, so that income tax is paid across the board for lump sums, whatever type of contract an employee has signed.
In fact, HMRC’s formula for calculating taxation of termination payments has been criticised for its complexity. The statutory formula is ((BP x D)/P) – T = PENP. If you’re scratching your head at this moment, then it’s time to call the professionals! Here at AMR, it’s our job to keep abreast of the latest regulations and to understand how they might affect the payroll work we carry out for our clients in Kent, London and across the South East.
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