Currently, employees may receive the first £30,000 of any termination payment free of income tax and national insurance contributions (NICs) as long as they are not receiving a payment pursuant to their contract of employment.

It was announced in March 2016 that termination payments which are subject to income tax on any amount in excess of £30,000 would, in the future, also be subject to employer NICs. HM Revenue and Customs (HMRC) has now published draft regulations which introduce changes that will be part of the Finance Bill 2017 and a future National Insurance Contributions Bill. The following changes are expected to apply from April 2018:

  • all payments in lieu of notice will be treated as earnings and will be subject to income tax and NICs regardless of whether they are contractual;
  • termination payments in excess of £30,000 will be subject to employer NICs, but the whole termination payment will remain outside the scope of employee NICs;
  • payments for "injury to feelings" will be excluded from the general exemption for injury payments, except where they relate to a psychiatric injury or a recognised medical condition; and
  • the foreign service exemption (for employment outside the UK) will be abolished (with the exception of seafarers).

The good news is that the changes are likely to streamline this previously complex area and make it more simple. The continuing benefit for those receiving a termination payment, according to the draft legislation, is that the first £30,000 of any payment received will remain free from income tax and no part of their termination payment will be subject to employee NICs.

The precise wording of the draft legislation is open for consultation until 5 October, however the proposed developments may make terminating employment more expensive for employers for two reasons. First, employers are likely to experience increased liability for NICs. Second, employers may have to offer increased financial packages to counter the lower net figure exiting employees are likely to receive under the new proposals. Therefore, we may see any planned terminations brought forward in order to benefit from the current regime until April 2018.