The end is nigh for £30,000 tax-free employment termination payouts!

The end of the £30,000 tax-free termination payment got closer last week. This long-standing tax exemption was addressed briefly in the Chancellor’s 2015 Summer Budget Statement at paragraphs 1.246 and 2.164.

However, when considered in conjunction with the July 2014 Report of the Office of Tax Simplification (OTS) it seems more than likely that the broad scope of this tax exemption for terminating employees will be curtailed sooner rather than later.

The OTS Report recommends moving away from the current £30,000 tax exemption which currently applies in practice to the vast majority of non-contractual termination payments, irrespective of the reason for the dismissal, and moving towards a system of tax relief applicable to all termination payments (contractual or otherwise), but only when the reason for the dismissal is statutory redundancy. The OTS Report goes on to recommend that such relief be capped at a multiplier of the statutory redundancy payment to which the redundant employee is entitled.

Statutory redundancy payments are calculated based on a combination of age and service multiplied by one week’s pay (currently capped at £475) up to a maximum statutory redundancy payment of £14,250 for employees with sufficiently long service. For example, a redundant employee aged 40 with six full years’ service earning £750 per week is currently entitled to a maximum statutory redundancy payment of £2,850 (£475 x 6).

Such a change would mean that all termination payments – contractual, non-contractual, employment tribunal and court awards other than those relating to a statutory redundancy dismissal, will be fully taxable and no longer attract the benefit of the current £30,000 tax exemption.

In practice, this change will mean that employees (and perhaps employers) will, wherever possible, be looking to structure dismissals as statutory redundancies in order to provide the redundant employee with the most tax beneficial termination package, and with ancillary NI savings, for the employer.

Moreover, where an employer is seeking the comfort of a Settlement Agreement (Release & Waiver) on a non-redundancy dismissal, the lack of this tax exemption may, in practice, increase the termination payment to take into account the employee’s increased tax liability.

Of course, with any statutory redundancy situation the employer will need to be very careful to follow a fair and proper redundancy process, including selection and the consultation requirements (individual and collective), in order to avoid procedurally unfair redundancy dismissal claims.

The OTS Report briefly, but without any detail, suggests alternative recommendations, but it would appear that the recommendation above would provide the Chancellor with the greatest savings short of abolishing the tax exemption in its entirety.