Termination payments ― overview

Produced by Tolley

The following Personal Tax guidance note Produced by Tolley provides comprehensive and up to date tax information covering:

  • Termination payments ― overview
  • Termination payments
  • Territorial scope of the rules
  • Fully exempt payments
  • Payments made on death of the employee
  • Payments made on injury / disability of employee
  • Payments into a registered pension scheme
  • Payments relating to foreign service
  • Payments in lieu of notice
  • Partially taxable payments ― £30,000 exemption
  • More...

Termination payments ― overview

Termination payments are payments compensating an individual for the loss of his job. They can take the form of cash or benefits in kind. Termination payments will either be fully taxable, partially taxable, or fully exempt depending on the nature and the amount of the payment.

Depending on the circumstances, termination payments can be treated for tax purposes as:

  1. earnings

  2. benefits in kind

  3. restrictive covenants

  4. benefits from an employer-financed retirement benefits scheme (EFRBS)

  5. termination payments (as within ITEPA 2003, ss 401–416)

The taxation of termination payments is discussed in more detail in the How could a termination payment be taxed? guidance note. You are recommended to read that guidance note before continuing. For the purposes of this guidance note, it is assumed that ITEPA 2003, s 401 applies.

It is the employer’s responsibility to correctly tax the termination payment and therefore the employer bears the risk of tax and penalties if the treatment is wrong. This is an area where HMRC sees frequent mistakes in the tax treatment and it has targeted such payments in the past.

Following a review by the Office of Tax Simplification (OTS), the Government consulted on the simplification of the income tax and national insurance contribution (NIC) treatment of termination payments in 2015 and 2016. Most of the changes apply from April 2018, although the Class 1A NIC changes were delayed until April 2020. These changes are discussed below.

Termination payments

The provisions in ITEPA 2003, s 401 apply to cash payments and benefits in kind received in connection with the:

  1. termination of an individual’s employment

  2. change in duties of an individual’s employment, or

  3. change in the earnings from a person’s employment

This guidance note deals with payments received on termination of employment.

The payment does not need to be received by the employee / former employee. Any payments or benefits from the employer that are received by his spouse / civil partner, blood relative or dependent can be taxed on the employee /

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