9th September 2020
From the outset of the COVID-19 pandemic the Government has provided businesses with a wide range of financial support packages, in particular the Coronavirus Job Retention Scheme which is due to end on 31 October 2020. However, everyday we hear on the news details of many household names announcing store closures, redundancies and re-structuring of their business model.
The tax treatment of redundancy payments is generally well understood and is not treated as taxable earnings up to a limit of £30,000. This will apply to statutory redundancy payments, together with any enhanced payments made by the employer.
The £30,000 exemption will not be applicable to any contractual payments, for example:
- Payments in lieu of notice
- Post-employment notice payments
- Accrued holiday payments
- Bonuses or other accrued entitlements
It is important that employers and employees carefully consider the nature of the payment which makes up any potential redundancy payment.
There are further exemptions available and these are considered below.
Counselling and other outplacement services
The employer can make available counselling and other outplacement services which are intended to provide support to employees who are going through a redundancy process. Under the exemption the employer can arrange for advice and guidance, imparting skills and provision or making available equipment and facilities which will help employees find new work or skills.
No limit is placed on this exemption, other than the fact that the employee must have been with the business for a minimum of two years, and the benefits provided must be available on similar terms for all employees.
A further helpful exemption concerns the cost of retraining courses, which includes:
- Payment or reimbursement of exam fees
- Essential books and learning material
- Travelling expenses for attending course
The course must be relevant to the individual being able to find either new employment or to start up their own business. Furthermore, it must not last for more than two years.
Again, there are some general conditions which need to be applied, such as the need for the retraining to be made available to all employees on similar terms, and the tenure of the employee at the business (more than two years).
The employer may make pension contributions on behalf of the employee without any tax charge being incurred. However, care needs to be taken to ensure any premiums paid do not exceed the employee’s annual allowance of £40,000 per annum, and where possible consideration is given to maximise unused relief brought forward from the previous three tax years.
Provision of taxable benefits
It is possible that any benefits provided may still not be taxable. The £30,000 tax-free exemption, which is available against any termination payment, can also be set against any non-contractual benefits. The provision of any contractual benefits will remain taxable, much in the same way as contractual payments (see earlier comments).
The value of any non-contractual benefits will be calculated cash equivalent basis (similar to calculating a benefit in kind). Where benefits are provided after the employment has ended, the employer must make a reasonable estimate of the cash equivalent over the expected period and it is this value which needs to be considered when determining whether the £30,000 limit has been exceeded.
Post-employment notice payments
Following changes to the legislation in April 2018, a charge to tax on ’post-employment notice pay’ or ‘PENP’ will arise on the proportion of the termination payment based upon the notice period. The charge will apply whether or not there is a contractual obligation to make a payment. Fundamentally, the charge will only apply to basic pay, however, anti-avoidance provisions are in place to prevent the suppression of earnings, for example, changing basic pay into a bonus.
The PENP calculation is based upon the following formula:
((BP x D)/P) – T
BP = Work out the basic pay for the last pay period to end before the trigger date (the day notice is given or if not given the last day of the employment) ignoring any salary sacrifice entered by the employee
D= length of the post-employment notice period in days
P= number of days in the pay period used to calculate BP
T= the total amount of any payment or benefit received in connection with the termination excluding, for example:
- Holiday pay entitlement for a period before the employment ends
- Any bonus payable for termination of the employment
What is basic pay?
To be able to determine what comprises ‘basic pay’ it is necessary to review the employee’s taxable employment income in the final pay period before the employment ended, plus any amount that the employee had given up the right to receive, for example via any salary sacrifice arrangements but disregarding any:
- Amount received by way of overtime, bonus, commission or allowance
- Amount received in connection with the termination of the employment
- Benefits in kind
- Amount that relates to sick pay, restrictive undertakings and certain amounts that relate to employee shareholdings
- Amount that relates to shares or share options
The term ‘allowance’ is not defined within the legislation, however, HM Revenue & Customs (HMRC) have stated that an allowance is an amount received by an employee as a supplementary payment over and above their standard pay. The period over which the allowance is paid, or the activity to which the allowance relates may, or may not be temporary in nature. Allowances could be paid:
- In recognition of particular circumstances, such as, an additional responsibility allowance for temporarily undertaking duties not otherwise required under the employment contract
- In recognition of particular working arrangements, such as weekend working allowance for an employee working unsociable hours
- To reimburse an employee for out of pocket expenses, such as a travel allowance to cover an employee’s transport costs whilst performing employment duties
What is the post-employment notice period?
The ‘post-employment notice period’ is the period beginning at the end of the last day of employment and ending with the earliest lawful date the employment can be terminated.
What are the trigger dates?
The trigger date is required for calculating BP, P and D within the post-employment notice pay calculation. The ‘trigger date’ is either:
- In a ‘notice case’, the ‘trigger date’ is the date notice is given
- Where the termination is not a ‘notice case’, the ‘trigger date’ is the last date of employment
In the PENP formula ‘P’ is the number of calendar days in the employee’s last pay period before the ‘trigger date’.
‘D’ is the ‘minimum notice’ period to be given to the employee.
What is the minimum notice period?
If either the employer or employee gives notice to the other party to terminate the employment, then this is referred to as a ‘notice case’. In a notice case it does not matter whether the notice given by either party is more, less than or the same as the minimum notice period. Nor does it matter if the employment ends before the notice period expires.
For a ‘notice case’ the minimum notice required to be given is based upon employment law entitlements and contractual terms effective immediately before the notice is given.
Where the termination is not a ‘notice case’, the minimum notice period is what the employer is required to be given by the employer to terminate the employee’s employment in accordance with employment law and the contractual terms that were effective immediately before the employment ends.
Where the termination is not a ‘notice case’, the minimum notice is the minimum notice period the employer is required to give to be able to bring the contract to an end in accordance with employment law and contractual terms.
If the total value of the termination package is less than £30,000, excluding any payments which are otherwise subject to tax such as a PENP or accrued holiday, no tax and National Insurance liabilities arise which need to be reported to HMRC. Where any benefits form part of the termination package, these do not need to be reported on a form P11D.
However, where the package comprises solely of cash, the additional tax and National Insurance liabilities will be reported to HMRC on the relevant months Full Payment Summary (real time reporting under PAYE).
Where the total package comprises both cash and benefits, a separate report needs to be submitted to HMRC by 6 July following the end of the tax year. There is no statutory return which needs to be completed but the information which needs to be provided includes:
- Total estimated value of the package
- Details of the cash payments and the cash equivalent of any benefits in kind in the year in which the termination took place
- An estimate of any cash payments to be made in future years
- An estimate of the life expectancy of the package with details of any contingencies, for example, if the provision of medical cover ends when future employment is secured
- Details of the type of benefits to be provided after the first year and the terms of their provision, for example, medical cover for five years
If there are any variations to the package of more than £10,000, a further report detailing those changes needs to be submitted to HMRC by 6 July following the end of the year in which the variations occur.
The National Insurance treatment of a termination payment came into effect from 6 April 2020. The changes will subject the employer to a Class 1A National Insurance charge on any payments made which exceeds £30,000. This is the same amount which is treated as exempt for tax purposes.
The purpose of this article is to provide some understanding of the various options available on the termination of an employment.