Termination pay in the UK: A comprehensive guide

Termination pay in the UK: A comprehensive guide

January 27, 2022

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It’s an HR inevitability—sometimes employees just don’t work out.

But terminating employment in the United Kingdom can be a sticky subject.For multinational companies that employ U.K.-based labor, there are a fewthings you need to know about giving notice and providing appropriatetermination pay.

What is termination pay?

Employers in the U.K. may be on the hook for providing lump-sum payments toterminated employees, referred to as termination pay.

Termination pay is what the employer pays out to a terminated employee whenthey are dismissed from their job. Termination pay in the U.K. may includecompensation for a notice period, extras like holiday pay or other contractualperks, as well as any wages owed to the employee for hours worked.

These payments come in different forms with different requirements. Generallyspeaking, employers are required to provide between one and 12 weeks of noticeof termination—based on an employee’s length of employment.

Types of termination pay in the U.K.

The Employment Rights Act of 1996 provides reasonableassurances to employees that their jobs are safe and stable. The legislationspells out protections that prevent employers from terminating employment forcertain reasons, as well as provides rules for termination pay when the reasonis justified.

Termination pay typically falls under three broad categories:

  1. Payment in lieu of notice (PILON)
  2. Ex-gratia settlements
  3. Redundancy payments

Payment in lieu of notice

Most U.K. employees who have been in their positions for at least one monthare entitled to a notice period when their employer chooses to let them go.These notice periods can be lengthy, especially for long-term employees, andit can be a burden for employers to allow terminate d employees access totheir facilities (awkward, anyone?).

You can choose to work around the termination notice requirements by using“payment in lieu of notice” arrangements. These arrangements will pay out alump sum to terminated employees equal to or exceeding the wages that theywould be entitled to for the required notice period.

Time on the Job

Notice Required for Termination

Less than One Month

No Notice Required

One Month - Two Years

One Week Notice

Two Years - 12 Years

One Week Per Year of Employment

12 Years +

Minimum 12 Weeks' Notice

Source: UK Employment Rights Act of 1996

For example, an employee who has been on the job for nine months is entitledto one week’s notice. An employer can choose to terminate that employee with alump sum payment equaling one week of wages with immediate dismissal.

Ex-gratia settlements

Employers who want to dismiss an employee quietly and peacefully will oftenuse monetary incentives to gain their cooperation. These ‘good will’settlements are considered mutually beneficial for the company and thedeparting employee.

While not required by law, ex-gratia settlements can be an attractive optionfor employers looking to part ways in order to avoid a grievance or time-consuming corrective action.

Let’s say a management-level employee is underperforming but not specificallyin gross violation of any company policy. You may be able to persuade thismanager to resign using an ex-gratia settlement. You pay out a little money inexchange for avoiding a lengthy—and often more costly—grievance process.

Redundancy payments

Redundancy payments provide an entitlement based on the employee’s workhistory, wages and age that serves as compensation when their position isterminated due to redundancy.

Here’s what you need to know:

  • Minimum two years on the job to qualify
  • Length of service is capped at 20 years

Years of Service by Age

Pay Entitlement

Years of Service Under 22

Half Week of Pay Per Year

Years of Service Between 22 and 41

Full Week of Pay Per Year

Years of Service Over 41

One and a Half Weeks Pay Per Year

Source: https://www.gov.uk/redundancy-your-rights/redundancy-pay

For example, if an employee is hired at the age of 20 and works for a companyfor 20 years, they are entitled to:

  • Two years of service at a half week of pay per year
  • 18 years of service at one full week of pay per year

So, 19 weeks of pay total. If the average rate of pay is 500 GBP per week,that is (2 x 250 GBP) + (18 x 500 GBP) = 9,500 GBP.

Age is undeniably a factor in an individual’s employability. Younger workerstend to receive less redundancy benefits because they are more likely to findalternative employment. Older workers may struggle to find a new position andare therefore compensated at a higher rate to make up for this.

What is a termination package?

Many U.K. companies address these termination requirements by offering atermination package that meets the minimum contractual requirements.Sometimes, they’ll even throw in a few feel-good perks to soften the blow.

Termination packages may include lump-sum payments, as well as any combinationof payments and incentives. Depending on what you are trying to accomplish,you may choose to combine incentives like the following in your terminationpackage:

  • Continuing benefits
  • Company assets like shares
  • Tuition assistance for reskilling employees

Holidays and termination pay

Most U.K.-based employees are entitled to 5.6 weeks of paid holidays or statutory leave per year.When an employee is let go , employers must pay out any remaining timeaccrued but not yet taken as of the termination date.

But there’s a catch—you may require the employee to take this leave whileworking their notice.

It would play out like this:

Your employee has four weeks of holiday leave available and two weeks ofrequired notice. He or she would take two weeks of holiday, and you would payout the remaining two weeks in a lump-sum termination payment.

The ongoing pandemic has softened these rules a bit, allowing employees tocarry up to four weeks of leave forward.

How termination pay is taxed in the U.K.

You can expect that the U.K. government is going to get their fair share ofyour termination pay package. Understanding how the different types oftermination pay are taxed will help you stay in compliance–and current on yourtax bill.

  • PILON payments are taxed as general earnings and should have the appropriate deductions withheld.
  • Ex-gratia payments include a limit of tax-free payments with amounts over 30,000 GBP subject to tax.
  • Statutory redundancy payments are tax-free. However, if your termination package includes additional redundancy payments above and beyond the required amounts, those additional payments will be taxed as general earnings.

The bottom line on termination payments in the U.K.

When and how you can terminate employees is a little bit of a gray area in theU.K. You can typically cover all of your requirements with payments in lieu ofnotice, ex-gratia settlements, and redundancy pay.

But to make sure all of your bases are covered, consider working with a global managed payroll provider that can provide access to the invaluable expertise of in-country HR experts. Outsourcing your payroll can be the best way to stay ontop of ever-evolving rules and regulations—so you don’t get sacked yourself.

Learn more: Finding the best international payroll providers

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