All pay in lieu of notice now taxable

For many years the tax position of termination payments, and in particular the distinction between contractual and non-contractual pay in lieu of notice (PILON), has been unclear.

It used to be the case that if there was no contractual provision for pay in lieu of notice, a termination without notice was a breach of contract. In this situation, a payment representing the pay that would’ve been earned during the notice period was treated as ‘liquidated damages’ for the breach of contract.

More recently, even if PILON’s non-contractual, if there’s been a history within the business of making payments in lieu of notice, HMRC’s treated the payment as an implied term of the employment contract and therefore subject to PAYE.

This position’s now been regularised by the Finance (No. 2) Act 2017, and all payments of PILON are now subject to PAYE and to employer and employee National Insurance contributions whether they’re contractual or non-contractual.

HMRC have informally confirmed that the new regime will only apply to PILON payments made on or after 6 April 2018 where the employment was terminated on or after 6 April 2018, and not to PILON payments made on or after 6 April 2018 where the employment was terminated before that date.

Further changes to the tax treatment of termination payments above £30,000 are due to be introduced in April 2019.