Will I have to pay tax on the amount received in the compromise agreement?

Any compensation that you receive for the termination of your employment, such as a redundancy payment, can be paid tax-free up to £30,000.00.

If you are receiving money instead of working a notice period, known as a Payment in Lieu of Notice (“PILON”), you may not have to pay tax on it. This will depend on whether there is a clause in your employment contract permitting your employer to make a PILON, known as a PILON clause.

If there is no PILON clause in the employment contract, any PILON in the compromise agreement can be paid tax free. This is because it will be classed as compensation rather than a payment under the employment contract.  It may be necessary to negotiate a re-wording of your compromise agreement in order to ensure that tax is not deducted from your PILON.

The position is different if the employment contract does contain a clause allowing the employer to make a PILON.  If an employer has a discretionary right to make a PILON and chooses to do so, the payment will be subject to tax.  It is deemed to be a payment made under the employment contract, rather than compensation.

If however the employment contract gives the employer the discretion to make a PILON but the employer chooses not to do so and pays compensation instead, it may still be deemed to be taxable as a PILON.  This is more likely when the “compensation payment” is substantially the same value as a PILON would have been.

Compromise agreements often state unnecessarily that tax will be deducted from the PILON. Our solicitors will advise you on whether the compromise agreement should be re-drafted to save you tax.