12 COMPROMISE AGREEMENTS AND TAX CONSIDERATIONS POINT GUIDE
Note: How various payments made within the body of a Compromise Agreement are treated for tax purposes will vary depending on the basis on which they are paid. Please consider carefully the following headings of payment and the tax advice under each head. 1. SALARY AND OTHER BENEFITS TO THE DATE OF TERMINATION. All payments made for the period up to the point that the contract of employment ends are subject to deductions of tax and national insurance in the normal way. 2. PAYMENTS IN LIEU OF NOTICE (PILON PAYMENTS). Whether PILON payments are taxable will depend on whether such payments are in fact permitted in the contract of employment. This information may also be dealt with in an employee handbook so it is a good idea to check in here also. If the contract or handbook permits such a payment, then tax will be payable like other contractual payments. If they are not permitted in a contract or handbook, they can be paid gross and will count towards the 30,000 exemption. If it is the custom and practice of an employer to make such a PILON payment even if it is not part of the contract, HM Revenue & Customs may consider that tax should be deducted. The question is whether payments are made automatically or considered on each occasion.
3. PAYMENT IN LIEU OF HOLIDAY ENTITLEMENTS. 4. COMPENSATORY AND EX-GRATIA PAYMENTS (NON-CONTRACTUAL) PAYMENTS. Very often an employee will have holiday owing to them when the employment ends. This is a common occurrence. Any payments made in lieu of holiday entitlement will be taxable. Compensatory, ex gratia (non-contractual) payments made for loss of office or employment are exempt from tax on the first 30,000. 5. PAYMENTS FOR RESTRICTIVE COVENANTS AND CONFIDENTIALITY OBLIGATIONS. On occasion an employer may wish to attempt to restrict an employee from acting in competition with them upon leaving or from approaching specific customers or employees once they have left the company. If the employment contract contains enforceable restrictive covenants, the employer will be able to rely on these if it has not breached the contract when terminating the employment. However, sometimes the contract does not contain such provisions, or the contract may contain restrictions that are too wide to be enforceable in law. If this is the case, the employer can seek new restrictions by including these additional clauses in the body of the compromise agreement. However, it should be noted that in order to make these restrictions contractually binding in law there must be a consideration paid; usually this consideration amounts to a small sum of 100-300. This payment will be fully taxable and furthermore it will be liable to national insurance contributions. Some Compromise Agreements may also include a consideration associated with a confidentiality clause. These are also subject to deductions.
6. PAYMENTS FOR INJURY TO FEELINGS. Payments made to compensate for injury to feelings arising from unlawful discrimination that occurred before the termination will not be taxable. Where the injury to feelings was caused by the termination the payment will be taxable. 7. PAYMENT ON ACCOUNT OF A DISABILITY OR INJURY. A payment can be made free of tax where it is on account of; a disability; or an injury; or a death. The payment must relate to the fact of the injury or disability and not any consequential effect on earnings. 8. REDUNDANCY PAYMENTS. Both statutory and contractual redundancy payments fall within the 30,000 exemption. These payments can therefore be made tax free up to the first 30,000.
9. CONTRIBUTIONS TO REGISTERED PENSION SCHEME. Payments made direct into a pension scheme are treated separately and are not subject to tax. There are annual and lifetime allowances for contributions to registered pension schemes and contributions in excess of these allowances do incur tax charges. 10. OUTPLACEMENT COSTS. Contributions to the cost of outplacement counselling or similar training are not taxable and are usually paid directly by the employer and therefore do not count towards the 30,000 exemption. 11. LEGAL ADVICE COSTS. The employer will normally pay the employee s full legal costs in relation to receiving advice from a solicitor concerning the terms and effect of the Compromise Agreement. This does not count towards the 30,000 exemption. However the advice must be given solely in connection with termination of employment. The fee should be paid directly to the employee s solicitor and there should also be specific clause within the agreement to this effect. It is necessary by law for the employee to receive proper legal advice prior to signing a compromise agreement. If the employee does not receive such advice the contract is not valid. This is one reason why employers will normally foot the bill. It is in their interests to ensure that the agreement is properly executed and enforceable at law. 12. AMOUNTS EXCEEDING THE 30,000 EXEMPTION. If the Compromise Agreement includes compensation that exceeds the 30,000 exemption, prior to 6 April 2011 tax was deducted at basic rate on the additional amount. If the employee was liable for higher rates of tax they were responsible for accounting to HM Revenue & Customs for this. The employer now has to deduct tax at the OT tax code rate which may mean making deductions at different rates from 20% to 50% depending on the size of the excess. The OT Code does not include any personal allowances and divides the different tax bands into twelfths. PLEASE NOTE: Verto Group Legal can put our clients in touch with specialist tax advisers should they request such advice prior to signing any agreement. If you have a Compromise Agreement and would like Verto Group Legal to assist you with advice then please contact: Mr Mark Taggart LL.B (Head of Employment Department) on: 020 3078 5767.
Verto Group Legal 20 Hanover Square Mayfair London W1S 1JY Tel: 020 3078 5768 Fax: 020 3178 2456 www.vertogrouplegal.com