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HMRC internal manual

Employment Income Manual

Termination payments and benefits: payments made under contractual terms

Sections 62 and 401 ITEPA 2003

With effect from 6 April 2018, some termination payments and benefits are chargeable to income tax as general earnings and do not benefit from the £30,000 threshold available in section 403 ITEPA 2003.

EIM13874 defines the term ‘relevant termination awards’ and explains that relevant termination awards are split into 2 elements:

  • post-employment notice pay (PENP)
  • termination awards subject to Section 403 ITEPA 2003

Statutory redundancy payments and contractually approved payments (see EIM13760) are not within the definition of ‘relevant termination awards’ (see EIM13874). These payments are always chargeable to income tax as specific employment income and benefit from the £30,000 threshold available in section 403 ITEPA 2003.

EIM12810 and EIM13750 explain that compensation for loss of employment by reason of redundancy is always taxable only under Section 401 ITEPA 2003 even if there is a contractual right to it.

Many other payments arising under a term in a contract are taxable as earnings from employment (see EIM00515) under section 62 ITEPA 2003. This includes payments that are made at the same time as redundancy but for a different reason. For example, it’s common to make a payment in lieu of notice (PILON) on redundancy and that payment may be stated in the contract. But the character of a PILON is not compensation for loss of employment by reason of redundancy and so should never be treated in the same way. Instead, it is a payment made because the employee did not receive proper notice and the guidance at EIM12976 and EIM13874 explains how it’s to be taxed.

Sometimes it is difficult to decide whether a payment provided for in a contract is in fact compensation for loss of employment by reason of redundancy. For example, a contractual term might provide for payment of a sum to an employee on termination “for any reason”. If a redundancy takes place, it might be argued that the payment has that character. But tax cases such as Dale v De Soissons (32TC118) have established that such a payment is essentially earnings deferred until termination, rather than compensation for loss of the employment. Redundancy may have triggered the payment, but any type of termination would have done so and the character of the payment remains the same whatever the trigger is. As earnings, it is taxable under section 62 ITEPA 2003.

If by contrast the contractual terms specify redundancy, then for the avoidance of doubt it may be accepted that the intention is to pay compensation for loss of employment by reason of redundancy. For example, if the contract says that a payment is to be made on termination “for any reason (including redundancy)” then it may be interpreted as providing such compensation (provided of course that there is in fact a redundancy within EIM13800). But as stated, this only applies to compensation for loss of employment; if the payment compensates for lack of due notice it does not have that character.