The taxation of payments and benefits made on the termination of employment is a complex topic and it is best to seek advice before making significant termination payments.
Termination payments should first be split into their component parts:
- Fully taxable; if the component ‘arises from’ the employment or is paid in connection with a restrictive covenant, then it is taxable in full, for example arrears of pay, contractual notice periods, bonuses, and holiday pay
- £30,000 pot; if the component is not taxable in full but is received in connection with the termination of employment (statutory redundancy pay and most damages payments made under compromise agreements) then the first £30,000 can be tax-free
- Tax exempt; in a few special situations the component is completely tax exempt, including payments made on account of the death, injury or disability of an employee