From 6 April 2018, all payments in lieu of notice (PILONs) equivalent to the amount of basic pay will be taxable as earnings, i.e. subject to tax and NICs, regardless of whether there is a PILON clause in the employee’s employment contract. As such, employees will pay Income Tax and Class 1 NICs on the amount of basic pay they would have received if they had worked their notice in full, even if there is no contractual PILON clause in their employment contract. This contrasts with the current position where PILONs on termination of employment benefit from the £30,000 Income Tax exemption if the employer does not have a contractual right to pay in lieu of notice and there is no “automatic” practice of paying in lieu.
What was not entirely clear was whether this change to the taxation of termination payments applies to termination payments made on or after 6 April 2018 or only to employment terminations taking place on or after 6 April 2018. HMRC has now published Employer Bulletin 70 in which it has clarified that the change applies “to payments or benefits received on or after 6 April 2018 in circumstances where the employment is also ended on or after 6 April 2018”. In other words, the tax change only has effect for payments made in, and relating to terminations occurring in, tax year 2018/19 and subsequent tax years.
Employers will now need to start factoring in the new rules when considering the timing and negotiation of termination payments. In addition, employers should include a standard PILON clause in their employment contracts from April 2018 as there will be no tax advantage of excluding the clause.