Employment Cases Update

Post-Employment Notice Pay (PENP) and PILONs

Date published: 20/03/2018

New law could have tax implications for awards of damages for wrongful dismissal

From 6 April 2018, all PILONs, whether contractual or not, will be classed as earnings and taxed under s62 ITEPA. The Finance (No. 2) Act 2017 has inserted new sections 402A - E into ITEPA, effectively meaning that any termination payment should be assessed to see if any of it could relate to notice pay which the employee had, or might have had, under a PILON.

For example, if an employee is dismissed without notice and given a termination payment of, say £20,000, and there is no PILON, HMRC could take the view that some of the termination payment is in fact notice pay and therefore fully taxable. S402D ITEPA sets out the formula for working out the 'notice pay' in these circumstances. If the employee did receive a PILON for the full notice period, it is likely that this figure will equal the Post-Employment Notice Pay or PENP (i.e. the calculation of notice pay under the formula) and as the PILON would already have been taxed, there would be no further tax to pay. In other circumstances, the PENP may be higher than any PILON, and the PENP figure would be subject to tax and NI.

How might this impact ET awards?
This new law could have an impact on a Tribunal award which relates to pay during the employee's notice period (although HMRC's Employment and Income Manual has not been updated to reflect the new Act). For example, if the Claimant is summarily dismissed and succeeds in a claim for wrongful and unfair dismissal, and is awarded, say, £5,000 in damages for wrongful dismissal, HMRC could class this as a payment the Claimant would have received ordinarily during their notice period and which would therefore be subject to tax and NI.

One way in which this could be handled could be to use gross pay in the calculation of damages for wrongful dismissal (currently net pay is used following the Gourley Principle) in the expectation that the Claimant would account for any tax and NI payable. Alternatively, the ET could calculate what tax and NI might be payable on the PENP by grossing up the net figure and add it to the damages figure.

Impact on the Employment Claims Toolkit
The designers of the Toolkit recommend that users operate the second method for now. It is not yet at all clear whether gross pay should be used for the calculation but once clarification is given, any changes to the calculation will be incorporated. So, in the meantime, any sum for tax/NI which may become payable by the Claimant can be added in the Benefits screen underneath Wrongful dismissal.

Further help
There are some helpful worked examples on the Tax Advisor Magazine website with a good explanation of how the new rules will work.

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