Termination award tax change from April 2020

Rules set to come into force in 2020 will align the income tax and national insurance contributions (NICs) on termination awards and sporting testimonials, closing a current loophole, which allows effective tax planning

The National Insurance contributions (NICs) Bill introduces a simplification of the tax system reforming the current situation where termination awards and sporting testimonials are treated differently for income tax and NICs and was introduced into parliament on 25 April 2019.

This measure will affect businesses that structure termination payments to reduce the tax and NICs liability and come into force from 6 April 2020.

HMRC says that ‘the current misalignment incentivises well advised employers to disguise final payments as compensatory termination payments that benefit from a NICs exemption’.

This Bill introduces a new 13.8% Class 1A Employer NICs charge to any part of a termination award or payment from a sporting testimonial, that are already income tax liable.

Any income derived from termination awards or sporting testimonials will remain free from employee NICs.

The rules for determining the Income Tax treatment of income from termination awards and sporting testimonials were legislated for in Finance (No.2) Act 2017 and Finance Act 2016, respectively.

Currently, certain forms of termination awards are exempt from employee and employer NICs and the first £30,000 is free from income tax.

The new rules affect the treatment of termination awards in excess of £30,000.

This measure is intended to bring clarity to the taxation of termination payments by clarifying that all PILONs [pay in lieu of notices], rather than just contractual PILONs, are taxable earnings.

All employees will pay tax and Class 1 NICs on the amount of basic pay that they would have received if they had worked their notice in full, even if they are not paid a contractual PILON. This means the tax and NICs consequences are the same for everyone and it is no longer dependent on how the employment contract is drafted or whether payments are structured in some other form, such as damages.

This Bill does not affect the employee NICs treatment of termination awards and NICs treatment of statutory redundancy pay and compensation.

The £30,000 threshold ensures that no statutory redundancy pay on its own will be affected.

The measure was first announced at Budget 2016 and was originally planned for introduction in 2018, but it was delayed for two years. Once the new rules come into force in 2020, the change is likely to raise an estimated £485m in additional tax revenue for the Exchequer in its first year of operation.

The government confirmed at Budget 2018 that these measures would take effect from 6 April 2020.

HMRC Guidance, National Insurance contributions (termination awards and sporting testimonials) Bill

Sara White

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