As its name suggests that it ought to, the Office of Tax Simplification has produced a simple and helpful report dealing with, amongst other issues, the tax treatment of compensation for loss of office.
The approach being taken by the Office of Tax Simplification is to be commended. The taxation of expenses, remuneration and benefits from employment within the UK is unnecessarily complicated. A quick examination of the application of the exemption under Section 401 serves to illustrate the point. Generally the first £30,000 of a compensation payment for loss of office or employment will be exempt from tax but where an employment contract has a payment in lieu of notice provision the exemption will generally not apply and the whole amount of the payment in lieu of notice will be taxable and NIC will also be deducted.
However, the situation is more complicated where the payment in lieu of notice is seen by HMRC as being automatic. As the Office of Tax Simplification point out, even where there is not payment in lieu of notice provision HMRC have in the past tried to argue that payments in lieu will be taxable if it is made as"an automatic response to a termination". This approach by HMRC is unfair. An employee needs certainty when agreeing a package about the tax situation. He cannot be left vulnerable and dependent upon his employer's ability to prove that the payment followed a"critical assessment" procedure in the making of the payment. Very often the employee will not know what thought processes were applied in the decision to make a payment. As most packages contain an indemnity in the employer's favour over any tax which becomes due, this does leave employees vulnerable not just to tax but also to NIC, interests and penalties- which by the time the liability has caught up with him, in reality will have to be paid out of taxed income. It seems unfair that employees should be left in this situation due to something entirely outwith their control.