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Termination payments and tax

Paying tax on termination payments

​All payments you receive as a result of the termination of employment are taxable, regardless of whether such payments are contractual, statutory or voluntary.

There is a tax exemption for the first £50,000 of termination payments.

When you will be taxed

The year in which you will be taxed (the tax trigger point) is when you are entitled to be paid the termination payment. For example, if the agreement was made in writing in December but it stated that you were entitled to be paid in January, then January is the 'tax trigger point'.  

Payments not covered by the exemption

The £50,000 excess does not apply to payments that are remuneration or deferred pay (see examples below). This includes:

  • bonuses
  • holiday pay
  • payment in lieu of notice
  • gardening leave
  • payments while suspended from duties
  • pensions
  • other payments of a similar nature

All of these payments are also liable to income tax.

Insolvency benefit

The £50,000 exemption does not apply to that part of insolvency benefit paid by social security that relates to unpaid wages, holiday pay and pay in lieu of notice. All these payments are taxable and should be declared on your tax return.

Examples

Example 1 - redundancy settlement with a compensation payment over £50,000

Types of payment     £ Tax treatment    £ 
Compensation for redundancy60,000 First £50,000 (max) of termination payment tax free 10,000 
Salary   5,000Taxable  5,000 
Bonus12,000 Taxable12,000 
Payment in lieu of notice 10,000 Taxable 10,000 
Holiday pay   1,000Taxable   1,000 

Total

88,000

Total subject to tax

38,000 

  Employer deducts tax (for example 16%)
  6,080 

Example 2 - redundancy settlement with a compensation payment under £50,000

Types of payment     £ Tax treatment    £ 
Compensation for redundancy40,000 40,000 is all tax free                                                                            0 
Salary   5,000Taxable  5,000 
Bonus12,000 Taxable12,000 
Payment in lieu of notice 10,000 Taxable 10,000 
Holiday pay   1,000Taxable   1,000 

Total

68,000

Total subject to tax

28,000 

  Employer deducts tax (for example 16%)
  4,480 

Injury, death and disability payments

Any payment made resulting from injury, death or disability is exempt from tax without limit.

Notice to employers

Do not deduct tax from compensation payments that do not exceed £50,000. If the payment exceeds this sum, only deduct your employee's current effective rate percentage from the remaining balance in excess of the £50,000 exemption.  

Tax must be deducted from any other elements of the employee's pay (see the examples above).​

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