The tax treatment of termination payments has changed significantly over recent years. The changes have aligned the rules for tax and secondary National Insurance contributions (employer (NICs)) by making an employer liable to pay NICs on termination payments they make to their employees. 

Employees do not pay tax and National Insurance on:

• Contributions their employer makes to a registered pension scheme as part of their termination payment – tax will be due on any employer contributions that go above the Annual Allowance.
• Legal costs related to the settlement that their employer pays directly to their solicitor.
• A termination payment they receive because of an injury, illness or disability that prevents them from being able to continue to do their job.

Employees do not usually pay tax on the first combined £30,000 of:

• statutory redundancy pay;
• additional severance or enhanced redundancy payments your employer gives you; and
• non-cash benefits, for example company property you keep after your employment ends.

Employees are required to pay tax on any amount over a combined total of £30,000.

An employer is required to pay employer Class 1A NICs on any part of a termination payment that exceeds the £30,000 threshold.

Employees are liable to pay tax and National Insurance on payments they would have earned whilst working. This includes lump sum payments in lieu of notice (PILONs), pay on ‘gardening leave’ and part of any severance, enhanced redundancy or non-cash benefits they receive (known as Post-Employment Notice Pay (PENP).