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Chris Hadrill, a specialist employment solicitor at Redmans, answers the question:

“What sums paid to me under my settlement agreement should be free of tax?”

Given that the question is one which is general in nature, it is not possible to provide a specific answer – which sums will be taxed and which sums will not be taxed will vary in each circumstance depending on the particular facts. However, it is possible to provide some general guidelines as to when employees may expect sums to be taxed and when they may expect them to be untaxed – we will examined this as follows:

  1. Which payments under a settlement agreement will generally be taxed?
  2. Which payments under a settlement agreement will generally be free of tax?

Which payments under a settlement agreement will generally be taxed?

‘General earnings’ will normally be subject to tax (and, where applicable, national earnings) under a settlement agreement. General earnings will normally (but not always) include (but are not limited to) the following types of payment:

  • Any salary, wage or fee (salary, bonus, commission etc.)
  • Any other kind of benefit (health insurance, life assurance, car allowance etc.)
  • Anything that constitutes a ‘contractual emolument’ of employment
  • Employer-financed retirement benefits
  • Payments and benefits upon termination of employment (which payments will be deemed to be related to termination will depend on the circumstances)
  • Income from securities
  • Gardening leave payments
  • Consideration for restrictive covenants
  • Contractual payments in lieu of notice

Which payments under a settlement agreement will generally be free of tax?

The first £30,000 of payments that fall within section 401 ITEPA 2003 are generally exempt from tax. Any excess above £30,000 will be subject to tax in the normal way. The following non-contractual payments are generally tax-free:

  • Ex-gratia payments
  • Damages for wrongful dismissal and payment on account of damages
  • Compensation for unfair dismissal or other breach of statutory rights
  • Compensation for injury to feelings and/or personal injury in discrimination cases (although this depends upon whether the discrimination was pre-termination or in connection with termination)

If you have been offered a settlement agreement by your employer (or are an employer offering a settlement agreement to an employee) and you are unsure as to which sums under your settlement agreement should be taxed (and which sums should be free of tax) then it is recommended that you obtain legal advice on your position – this is a reasonably complex area of law and getting it wrong can have potentially serious consequences. However, you may also follow the guidance provided by HMRC on determining the correct tax treatment of a termination payment – HMRC recommends that the following questions are addressed:

  1. Does the payment fall within the category of general earnings (or is it a benefit of the employment) under Parts 2 to 5 of the Income Tax (Earnings and Pensions) Act 2003 (“ITEPA 2003”)?
  2. If not, is it a payment for a restrictive covenant taxable under sections 225 and 226 of ITEPA 2003?
  3. If not, and no other income tax charge applies (for example, compensation for loss of a share option) ,is the payment a payment taxable under sections 401 to 416 ITEPA 2003?

 

About

Redmans Employment Team deal with employment matters for both employers and employees, including drafting employment contracts and policies, advising employers and employees on compromise agreements, handling day-to-day HR issues, advising on restructures, and handling Employment Tribunal cases for both employers and employees Call 020 3397 3603 to speak to one of the members of our employment team or email us on enquiries@redmans.co.uk. Redmans have offices in Richmond, Chiswick, Hammersmith, Fulham, Kingston, Wimbledon, Ealing, Kings Cross and Marylebone (meetings strictly by appointment only).

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    Testimonials

    4.80 Average

    330 Reviews

    Arabella B

    I am so grateful to Caroline Lewis at Redmans Solicitor’s for helping me with my Unfair Dismissal Case. I was seriously impressed how easy Redmans made the whole case, and am very happy with my Settlement. I have recommended your firm to at least 5 people in the last 3 months.. Thank you Caroline and everyone at Redmans. You are Brilliant .

    Posted 7 hours ago

    Anonymous

    Highly professional and efficient service.

    Posted 12 hours ago

    Tanya T

    I had the pleasure of Chris and Sacha’s experience with a work matter. They made me feel at ease with the process and explained everything thoroughly. Would happily recommend Redmans especially Chris and use them if needed I’m the future. Thank you!

    Posted 13 hours ago

    Anonymous

    I used the services of Redmans solicitors and was a quick outstanding service I engaged them in a settlement agreement after been made redundant extremely professional at all that was done and would definetly use them again

    Posted 14 hours ago

    Adrian A

    Spot on support, enough to get the matter at hand sorted. No beating around the bush, no nonsense - got the job done and we all moved on.

    Posted 14 hours ago

    Mark Q

    Five Stars I was most impressed by the attention, courtesy, speed and above all, professionalism in dealing with my Settlement Agreement. I would certainly have no problem in recommending this firm to anyone in need of their services.

    Posted 1 week ago

    Ade A

    I was surprisingly impressed by how Redmans Solicitors handle my case. From the moment I call them to the absolute end of my case, they always look after my best interest.

    Posted 1 week ago

    Malcolm P

    they were there when others were not

    Posted 2 weeks ago

    Anonymous

    Excellent service all the way through from start to finish. Really great support and guidance from the team, they secured the offer that I wanted. I can't recommend Redmans highly enough and will be sure to use their services again should the need arise.

    Posted 2 weeks ago

    Anonymous

    Efficient and quick service!

    Posted 1 month ago

    Karen B

    Quick response very helpful Issue raised dealt with very quickly

    Posted 1 month ago

    Carmen T

    Redmans give Great service and advice on reading contracts. They can explain all the solicitors jargon into words that you can understand. I received excellent service an I will use them again and again.

    Posted 1 month ago

    Anonymous

    Very grateful for Mel’s efforts in handling my case from start to finish which I would have found very stressful without it. She was very professional, friendly and we had a positive outcome. Highly recommend.

    Posted 1 month ago

    Nalin W

    Mel Chin was my Legal Executive when I engaged the services of Redmans Solicitors to help with a redundancy matter. She was incredibly approachable and professional from start to finish. Specially I have to mention regarding prompt reply to all my email queries, It was super quick. I would thoroughly recommend Mel Chin. Many Thanks

    Posted 2 months ago

    Anonymous

    I'd highly recommend Redmans Solicitors. Mel was very helpful and assisted me throughout my case.

    Posted 2 months ago

    Anonymous

    Sacha was very thorough and very helpful, with great advice on when to act and when to wait on my case.

    Posted 2 months ago

    Anonymous

    I have been very pleased with the support I got from Redmans Solicitors on my case with my employer. Caroline has always helped me to put things in perspective and showed me different scenarios ultimately to help me taking the right decision. She was very professional and always available when I needed, and at the same time also emphatic which I found also really important to establish a strong relationship. Will definitely recommend!

    Posted 2 months ago

    Anonymous

    Prompt and efficient response to my enquiries. Excellent negotiating skills with my employer which considerably improved the terms of my settlement agreement.

    Posted 2 months ago

    Anonymous

    Very quick and professional service , Rana was very helpful

    Posted 2 months ago

    James G

    Very professional, knowledgeable and kept me informed at every stage of my case. I would highly recommend Redmans.

    Posted 2 months ago

    Pravina P

    Chris was really good and help solve my issues with current company. I would recommend him to anyone.

    Posted 3 months ago