Termination Payments

Question.

 

Are all termination payments to employee’s tax free up to £30,000?

 

Answer.

 

Termination payments are made to employees for all sorts of reasons, but the first thing to understand is that there’s no automatic entitlement to pay the first £30,000 tax–free, and if the employer gets it wrong it’s the employer who ends up paying the tax, plus interest and possibly even penalties, while the employee may walk away with more than they were really entitled to.

 

In fact, it isn’t only termination payments that can qualify for exemption. Compensation payments for lost employment rights that mean a change in job or status, or mean loss of future earnings, can also be tax-free up to the £30,000 maximum. However, in those cases the payment must only be compensation for a loss; if it’s in any way an inducement to continue in employment or accept a different employment it will probably still be taxable.

 

Statutory redundancy hardly ever exceeds £30,000 and is covered by the exemption, but additional payments can cause more difficulty. HMRC are always on the lookout for payments that are really rewards for past service but dressed up as compensation for termination. So if the employee is already entitled to a payment under their contract (e.g. under a bonus scheme for work already done) it is not possible to cancel the bonus and pay compensation instead.

 

Payments in lieu of notice are a frequent cause of problems. They may be paid because the employee is leaving but the simple fact that employment is being terminated is not enough for the exemption to apply.

 

Make full use of pensions – you may not be able to offer an employee who is leaving a cash lump sum, but if you want to send them off with a good retirement package consider putting an extra contribution into their pension. The contribution doesn’t eat into the £30,000 limit because it should be tax-deductible anyway, and it may enable the employee to take a tax-free lump-sum from their pension after retirement.

 

The advice above is specific to the facts surrounding the questions posed. Neither PKF-FPM nor the contributors accept any liability for any direct or indirect loss arising from any reliance placed on replies.

 

Get in touch with Stephen Elliott via email s.elliott@pkffpm.com