Termination Payments - Error in CWG2 on taxation of tribunal awards

Written by Ian Congreave - Filed under: Termination payments on August 11th, 2008

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UK Flag HMRC booklet CWG2 Employer Further Guide to PAYE and NICs includes guidance on the PAYE tax and NICs implications of tribunal awards.

When an employer is required by an employment tribunal to make an award for reinstatement or re-engagement to an employee, HMRC’s guidance in the Employment Income Manual states that, because the award is compensation for unfair dismissal, it is taxable to the extent that, together with other non-contractual termination payments, it exceeds £30,000. The effect is that, in many cases, no tax is due on awards for reinstatement or re-engagement. (Note, however, that there is still a Class 1 NICs liability).

The corresponding guidance in CWG2, on page 93, indicates that an award for reinstatement or re-engagement is always taxable in full. In response to our written question to HMRC to clarify the discrepancy, HRC has confirmed that the CWG2 guidance is incorrect and will be rectified in due course.

The correct situation, therefore, is that, although a tribunal order for reinstatement or re-engagement means that, in effect, there has not been a dismissal for employment rights purposes, that is not how it is viewed for tax purposes. The payment, as ordered by the tribunal, is made in respect of a period when there was no employment and is, therefore, the result of the termination. The employee is treated as a new employee, using standard P45 or P46 procedures. The “gross” amount of the award is taxable to the extent that, together with any other qualifying termination payments, they exceed £30,000.

This reasoning does not apply to Class 1 NICs liabilities. The Social Security legislation treats payments of arrears of pay under a reinstatement or re-engagement order as earnings for NICs purposes. This provision is correctly stated in CWG2.

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Written by Ian Congreave -

Filed under: Termination payments on August 11th, 2008