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Tax-free PILONs to be scrapped

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22nd Feb 2017
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The government plans to abolish the tax-free status of certain redundancy or termination payments in the upcoming budget – a move that has divided expert opinion regarding its likely impact on businesses and their employees.

Draft legislation published ahead of the Budget shows that non-contractual payments in lieu of notice (PILON) will no longer be exempted from tax up to £30,000 after April 2018, according to tax information network Wolters Kluwer.

Redundancy payments can be made up of a number of elements, including compensation for the loss of job and PILON. The first £30,000 of the PILON element of the payment is presently exempted from income tax where the payment was not a contractual right.

The difference between a non-contractual tax-free PILON, where the employee was entitled to a £30,000 exemption, and a contractual PILON, which attracted tax and NICs, was long thought to be unfair, and the proposed changes in the draft legislation will remove the exemption for all PILON payments, apart from where they relate to bonuses the employee would have received if they had kept their job.

The government had planned to tax bonus payments as well as basic pay in lieu of notice, but scrapped the idea during consultation after it failed to get around the difficulty of predicting what bonuses would be due in a given notice period.

Employers will also have to pay National Insurance contributions on PILON amounts over £30,000 for the first time.

The proposals stem from Office for Tax Simplification recommendations from 2015, and have been in consultation for some time. The changes will be included in the Finance Bill, which will be published after the Budget on March 8 and, if approved by Parliament, will come into effect in April 2018.

Start preparing for changes now

Commenting on the news Mark Cawthron, a tax writer at Wolters Kluwer said he believes the reform will have a “pretty fundamental and widespread impact” for companies and their employees.

“In particular”, said Cawthorn, “in most terminations, it will very largely cut away the financial benefits and in the case of larger termination packages, for senior executives or other high earning staff, the new National Insurance liability will be a significant extra cost for employers.”

Stuart Chamberlain, Wolters Kluwer’s UK employment law expert added:  “Employers should start preparing for these changes now, particularly if they are envisaging reorganisations or re-structuring that could involve termination by PILONs and redundancy.”

Not a big impact

Matthew Brown, technical officer, employment tax subcommittee at the Chartered Institute of Taxation (CIOT) believes the changes will not have a significant impact at either the higher or lower ends of the employment market.

“If you take senior executives”, said Brown, “the chances are if they’re made redundant or their employment is terminated their overall package is going to be significantly more than £30,000. Therefore it’s not going to make a difference what’s taxed.

“It might make a small NI difference but for senior executives, moving the non-contractual breach of contract PILON into the same tax treatment as the contractual is going to make no difference whatsoever.

“At the other end of the market – admin workers, office workers etc.”, continued Brown, “if you work for a relatively large business the chances are that even if your contract of employment doesn’t provide for PILON it is more than likely the employee handbook does, because firms like the flexibility this allows. For those sorts of people their PILON was always contractual and always taxable.

“There’s going to be a number people, possibly working at smaller businesses, where the contract doesn’t say anything about notice other than you’re entitled to statutory, in which case you’re entitled to, say, four weeks and that’s entitled to work your notice period.

“In those cases, if they had a PILON that would be a breach of contract payment and it’s possible their overall redundancy or termination package might be less than £30,000, so you could argue they’re losing out – having to pay tax on the element that PILON.

“You can equally argue that they’re just being put on a level playing field with other employees at larger businesses – it depends how you want to look at it.”

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