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HMRC internal manual

Business Income Manual

Specific deductions: staffing costs: restrictive covenants with employees

S225, S226 Income Tax (Earnings and Pensions) Act 2003, S69 Income Tax (Trading and Other Income) Act 2005, S69 Corporation Tax Act 2009

A trader may make a payment to an employee so that the employee agrees to restrict their future conduct or activities. Such an agreement is known as a restrictive covenant or undertaking. It is usually (though not invariably) made between the trader and its employee in order to restrict the employee’s activities if the employment is terminated.

The employee is chargeable to Income Tax on these payments. For further information on this point, see EIM03600 onwards.

If the employee is charged to Income Tax on the payment, then the employer can obtain a deduction for it in computing the trade profits.

A deduction can be made even if the payment would otherwise be disallowable as capital because rules which specifically allow a deduction generally override those which prohibit a deduction (see BIM42080).

The deduction is given in the period that the payment is made, or treated as made for the purposes of the Income Tax charge on the employee.

If there is no Income Tax charge on the employee, these rules do not apply. Guidance on payments made under restrictive covenants to employees where the rules do not apply is at BIM35595.

For guidance on payments made under restrictive covenants to other traders, see BIM35510.