PILON (Payment in Lieu of Notice) and Termination Payments

PILON (Payment in Lieu of Notice) and Termination Payments


Employees with more than one month’s service are entitled to a minimum statutory notice period upon termination of their employment contract.

The statutory notice provides that an employee must receive a minimum of one week’s notice for every full year that their employer has employed them for up to 12 weeks.

If they have been employed for less than one year but more than four weeks, they are statutorily entitled to one week’s notice.

In many cases, employers will extend the length of the notice period from the statutory minimum under the employee’s employment contract terms. Contractual notice cannot be shorter than the employee’s relevant statutory entitlement.

An employer may wish to terminate an employee’s employment immediately, irrespective of the notice period they are entitled to. This may be because the employee has requested it or has access to sensitive or confidential information. The employer is concerned that the employee may disrupt the rest of the workforce or not carry out their job properly if they work their notice period. Pay in lieu of notice (or PILON) is one way to achieve this.

PILON or payment in lieu of notice allows an individual’s employment to be terminated immediately without completing or working their notice period. Instead, the employer pays the exiting employee the amount they would have earned had they worked their full notice period.

PILON and different types of dismissal

If the employment contract makes the PILON, the contract will usually set out the payment terms, including what will be considered in calculating the payment. Benefits and other payments may not be included.

The contractual term should stipulate when PILON takes effect, e.g., whether it is on the date notice of termination is given, the date the PILON is made, or the end of what would have been the notice period. The contract should also stipulate the amount that will be paid, which could, for example, cover basic pay but not benefits, bonuses, or commissions during the notice period. Payment in lieu of notice does not have to include holidays that would have accrued during the notice period, i.e., beyond the termination date, unless the contract provides otherwise.

If the employment contract does not provide for PILON, the employer would generally not be able to terminate the contract with immediate effect without the notice period. They may be in breach of contract for dismissal with pay in lieu of notice. This also means any post-employment restrictive covenants would no longer be legally binding on the employee.

Suppose the payment is in breach of the employment contract. The employer will usually need to pay an amount equivalent to any benefits or other payments that the employee would have received had they worked their notice period and the salary they would have been entitled to. In the case of a breach, the payment is, essentially, an advance damages payment or compensation to the employee for the breach. The employer may also include an amount for holidays accrued during the notice period.

How does PILON apply in relation to redundancy?

Payment in lieu of notice is often made in redundancy situations.

If the employee has worked for the employer for more than one month, they will have a statutory right to be given a certain amount of notice. This has to be the minimum notice period by law:

  • At least one week’s notice if employed between one month and two years
  • One week’s notice for each year if employed between 2 and 12 years
  • 12 weeks’ notice if employed for 12 years or more

They may be entitled to more notice if the employment contract provides this.

In the case of redundancy, employers can terminate the contracts of employees being made redundant immediately, meaning the employees do not have to work their notice period. In such cases, the employees should still, by law, be paid for the notice period. This should be communicated to the employees as part of the redundancy consultation process.

Payment in lieu of notice would be in addition to the employee’s statutory redundancy pay entitlement. Payment may be wrapped up with any redundancy or termination payments made by the employer to the employee. However, it is important to be clear as to what constitutes the PILON and what is a termination payment for tax reasons.

How does PILON differ from garden leave?

PILON is not to be confused with garden leave which is a separate concept. Where PILON applies, the employee’s employment is terminated immediately, and the employee is paid the amount they would have earned had they worked their notice period. Because the employment has terminated, the relationship between the employer and employee has ended, the employment contract terms are no longer binding, and the employee is free, for example, to find work elsewhere.

If an employee is placed on garden leave, their employment contract will remain effective for the duration of the period of leave until the date the contract is terminated. This means they are still employed by their employer for the garden leave period but are not required to go into their place of work. They will continue to be paid and accrue their rights and benefits in the usual way during the garden leave period, and technically, they could be required by their employer to undertake work.

Is PILON taxable?

PILON is taxable, and this is the case regardless of whether the payment is made by the employment contract or otherwise. The rules and calculations are, however, complex.  Essentially, an employee will pay income tax and Class 1 National Insurance Contributions (NICs) on the basic pay they would have been paid had they continued to be employed during their notice period. This amount is known as PENP or post-employment notice pay. Any amount paid to PENP will be classified as termination payment and taxed accordingly.

Termination payments

Typical termination payments will include compensation for loss of office, redundancy payments, damages for dismissal, payments in lieu of notice (PILONs) and certain payments made on retirement.

Termination payments will be fully taxable, partially taxable, or fully exempt, depending on the nature of the payment.

If a termination payment is given to the employee in return for services performed under the employment contract, the termination payment will be earnings and taxable in full. However, a termination payment will generally compensate the employee for loss of office rather than being rewarded for service performed.

Most termination payments are not earnings from the employment and are taxed differently than other payments such as salaries and bonuses.

National insurance implications

Class 1 NICs are paid on earnings from employment.  As far as termination payments are concerned, where a payment is made to an employee under a contractual obligation, this payment will be regarded as earnings for Class 1 NICs purposes.

PENP is also treated as earnings for Class 1 NICs purposes.

Class 1 NICs are levied on both employees and employers.  Employees have an upper earnings limit for Class 1 primary NICs which is currently £50,270 per annum. Suppose a termination payment is made to an employee who earns above this upper earnings limit. If the termination payment is chargeable to Class 1 NICs, there will only be a 2% additional charge on the employee.  However, secondary NICs will be levied on employers in full.

Payments from an EFRBS will generally be subject to Class 1 NICs.

Where an ex-gratia payment is made – i.e., where there is no contractual obligation, and the payment is not PENP – the payment will not be regarded as earnings and will not be charged to Class 1 NICs.  Therefore, where a termination payment is made such that the £30,000 exemption rule applies or income tax, Class 1 NICs are not due, even on any payment over £30,000.

However, where a termination payment is not regarded as earnings (and therefore not subject to Class 1 NICs), a Class 1A NICs charge will be levied on the amount of the payment subject to income tax.  This means that the employer will be subject to Class 1A NICs at a rate of 15.05% (13.8%-2021/2022) on the amount of the payment over the £30,000 exemption. However, the full payment will continue to be free of NICs for the employee as Class 1A NICs are only payable by the employer. Where a termination payment is regarded as earnings, it is subject to Class 1 primary and secondary NICs as usual.

If you need assistance in employment taxes, please contact us at 02082271700 or info@wimaccountants.com

R&D claims an “unbelievable” drain on company resources

R&D claims an “unbelievable” drain on company resources

Research & Development (R&D) tax credits have been in the news a lot of late – two significant changes to the scheme are expected to take effect from April 2023 while more imminently, HMRC is investigating the huge volume of what they call ‘spurious’ claims which have increased over the past few years.

R&D tax credits are intended to support companies investing in science and technology projects or schemes. To qualify, companies need to pay corporation tax, and the associated project already should involve either advancement, innovation or research in the science and technology areas. Staff costs, research contributions and software all qualify under the scheme.

Larger companies who claim R&D tax credits under the Research and Development Expenditure Credit (RDEC) scheme are entitled to a 13 percent RDEC rate.

HMRC figures show a 16 percent increase in the number of R&D tax credit claims for the year ending March 2020. This equates to £7.4bn in total support claimed, up 19 percent from the previous year (£6.3bn).

Although, in theory, this paints a positive picture of innovation in the UK, a suspected uptick in spurious claims has sparked concern.

For instance, of the 85,950 R&D claims made, 85 percent were less than £100,000 in value – conceivably an indication of suspicious activity.

HMRC investigations (ongoing): HMRC is now clamping down on ‘spurious’ R&D claims. Their figures show that £612million has been lost through incorrect R&D claims. As part of this, HMRC has recruited 100 additional caseworkers to add a heightened level of scrutiny over R&D claims.

R&D tax credit changes (from April 2023): Chancellor Rishi Sunak announced during the budget that there would be two significant changes to the R&D scheme from April 2023, including:

  • Extension of R&D scheme. Currently, cloud computing and data costs are not included in the scheme. Still, under the changes, the scheme will be extended to include these key areas to recognise the increased use of cloud software and data hosting.
  • Focus on UK-only innovation. From April 2023, R&D claims will be restricted to UK-only activity, affecting companies who subcontract R&D overseas.

Qualifying R&D

  • Certain conditions have to be met in relation to the expenditure, as follows:
  • It must be revenue not capital in nature.
  • It must be related to a trade carried on or to be carried on by the company.

It must be incurred on:

  1. staff costs
  2. software or consumables
  3. relevant payments to the subjects of clinical trials
  4. subcontracted R&D costs or
  5. externally provided workers 

It must not be incurred in the carrying on of activities which are contracted out to the company by any person.

It must not be subsidised.

In respect of expenditure or activities contracted out to the company and subsidised expenditure, an SME is allowed to claim an equivalent to the R&D expenditure credit provided it would be available to a large company in the same circumstances.

In addition, the company must be a going concern. Companies in liquidation or administration are not going concerns.

Consumable R&D tax credit

The cost of items that are directly used and consumed in qualifying R&D projects may form part of the claim for R&D relief. This category includes materials and the proportion of water, fuel and power consumed in the R&D process.

Once your work to resolve the technological or scientific uncertainty is finished, any additional costs for consumables (such as materials for cosmetic fine-tuning or marketing) cannot be included in your claim. It would help if you were careful only to have the consumable costs related to your R&D work – this may differ from the consumable costs for your entire developed material, product, process, or service.

If you have questions or need any help with your R&D claims, please visit our website  wimaccountants.com/ or contact us at 02082271700 or info@wimaccountants.com.

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