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Significant changes to the termination payment rules from 6 April 2018

 

Posted on 22 February 2018

With effect from 6th April 2018 there are significant changes to the legislation relating to the taxation of termination and redundancy payments. The changes specifically impact all payments made in lieu of notice (PILONs) and compensation payments for the loss of contractual benefits.

To further confuse matters HMRC are now referring to PILONs as ‘PENPs’(Post-employment Notice Pay) which represents the amount of pay, and/or benefits, that the employee will not receive because their employment was terminated without full, or proper notice being given .

After 6th April 2018, employers who incorrectly classify PILONs (PENPs) as non-taxable, expose themselves to the risk of incurring additional costs, as HMRC will seek to recover not only the unpaid Tax and National Insurance Contributions (NIC), but also penalties and statutory interest.

No matter how the potential tax and NIC position is worded in compromise agreements etc. HMRC always pursue the employer, not the ex-employee, for any underpaid tax and National Insurance Contributions.

Position prior to 6 April 2018

If your contractual terms contain a Payment In lieu of Notice clause then these are subject to normal Tax and NI deductions, due to this being classified as earnings.

However, if your contractual terms do not contain a PILON clause then the notice period is usually exempt from Tax and NIC deductions and the payment can be made gross (together with any redundancy payment or other non-contractual termination payment) subject to the £30,000 tax-free threshold for non-contractual payments.

HMRC can still challenge such payments as taxable if they consider the payment to be 'automatic', or ‘custom and practice’, giving the employee an expectation to receive it.

Demonstrating to HMRC that a ‘critical assessment’ of the total payment has been carried out helps to counter HMRC’s ‘automatic’ and ‘custom and practice’ argument. A critical assessment is essentially documenting the process behind reaching the total payment being made.

For example, copies of the relevant contracts, company policies and notes of discussions with the employee and their advisers and internal discussion notes. These may indicate, for example, that consideration has been given in respect of any potential action that the employee may take against that Company for failing to let them work their contractual notice period.

From 6th April 2018

All notice pay will be subject to Tax and NIC, whether or not the employee is required to work it. In addition any other contractual payments, such as bonuses, commission, performance payments or any other moneys that would have accumulated during that notice period, will also no longer qualify for the £30,000 ‘non –contractual’ income tax exemption.

Also, any payments made to compensate the employee for the loss of a benefit, for example a cash payment to cover the early return of a company car, or the loss of private health insurance, will also be liable to PAYE tax and Class 1 NIC deductions.

Any payments that are not contractual, or related to the notice period, will continue to benefit from the £30,000 exemption to tax and can be paid free of Class 1 NIC (employers and employees) altogether. However, see below for more information in respect of further changes coming into effect from 6 April 2019.

More changes for Termination Payments and Redundancy Packages with effect from 6 April 2019

There is also an anticipated change to calculations of termination packages, which is planned for April 2019. From this date, payments exceeding £30,000, in addition to being liable to PAYE tax, will also be subject to employer’s NIC, but not employee’s NIC. Before this date all non-contractual payments were exempt from all NIC deductions.

Employers already considering restructures and redundancies, might wish to put careful consideration of the timing and action their plans before changes take place to keep costs down.

If you have any concerns about your current processes, or the new rules coming into effect from 6th April 2018, and would like to discuss them in more detail please contact the Smith Cooper Employment Tax team. We have many years’ experience advising clients on termination and redundancy policies, ensuring that the tax and NIC treatment is correct. When errors are identified, we can also manage any disclosure process with HMRC to ensure that the issue is dealt with as quickly and efficiently, minimising liabilities as far as possible and restricting potential penalties.

 

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