Compromise Agreement Tax

The taxable components within a Compromise Agreement and the tax payable are listed below. It would be prudent to draft the Agreement such that each component of the final settlement is itemised individually. The specific text of the Agreement itself and the employee's own contract may determine the outcome.

If you are in doubt about tax liabilities it may be prudent to consult an independent tax specialist here. In addition, pay particular attention to the exact wording of the Tax Indemnity clause(s) in the Agreement itself.  The clause should ensure that, if HMRC determine that tax is payable, your ex-employee picks up the tab. 

Taxable Sums

Any sum identified as payment or benefit earnings from the employment will be taxable as per HMRC briefing note here.  This, for example, covers normal wages and holiday pay.

Non-cash Benefits

You may have agreed to let the departing employee keep some non-cash items (e.g. a laptop). Ensure that these are fully itemised with a value because all contribute towards the £30,000 tax free ex gratia payment limit. Benefits such as continued use of a mobile phone or company car may well be counted as contributing to this limit.

Payment in Lieu of Notice (PILON)

What does your employee's contract of employment and your draft Compromise Agreement say? HMRC states clearly: "Where an employee receives a contractual payment in lieu of notice (PILON), it is chargeable under Section 62 ITEPA 2003 as earnings from the employment" here.

Ex Gratia Payment

Up to a limit of £30,000, a tax-free lump sum likely to sweeten the deal for the employee.