Termination payments – possible changes on the horizon

Many business owners will be aware of the current opportunity to make tax free termination payments to employees on the first £30,000 of income, and not have to pay the employers National Insurance of 13.8 % as well. Not only that but HMRC allow you to do it, but there may be some changes coming soon that will make it less attractive from a tax position and, therefore, more expensive for a business.

The current tax position is rather complicated but in essence, if the termination payment doesn’t meet certain tax criteria, then by default it is caught by the termination payment rules, and that allows for the first ¬£30,000 of the payment to be made tax free. This is quite a generous tax outcome so unsurprisingly HMRC are looking to make changes to the current tax position to make it less attractive.

One suggestion at the moment is that after two years employment, an amount can be paid on an increasing scale dependent on the length time the employee was a member of staff, provided  the employee meets a definition of redundancy. If they do then that payment would be exempt from both income tax and National Insurance. Currently companies can use the existing tax-free system to lose poor performing staff quickly without having to go through formal redundancy, performance management or disciplinary procedures.

However, the proposed system could make it considerably more expensive for employers to pay off staff quickly, because although the employee may no longer be required, the role remains and so the definition of redundancy is not met, and the tax free rules do not apply. At this stage it’s only a suggestion and other options may be thrown in the pot for discussion, but the clear message is that the current system will be changing, and it won’t be as attractive in the future.


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