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How termination payments are taxed.

We may only be three months into 2022 but plenty of big employers – both here in the UK and overseas – are making employees redundant for a myriad of reasons. 

OVO Energy is reportedly trying to control costs by cutting 1,700 jobs as gas market prices soar to record highs, Tesco is in the process of axing 1,600 jobs as part of a business remodel, and Peloton has also said it will cut about 2,800 jobs globally due to a drop in demand for its products.

In the three months to 30 November 2021, however, the UK’s redundancy rate was a record low following the end of the furlough scheme.

But the tide may now be turning and employers that are going through the same process as the likes of OVO, Tesco and Peloton should be aware of how termination payments work in 2022.

These payments are made to an employee in relation to the termination or loss of their employment, such as when you make members of staff redundant.

We’ll go through everything in layman’s terms to give you an idea of what to expect, but you might need our advice to calculate how individual packages should be paid and taxed.

Two types of termination payments

For tax purposes, there are two categories of pay that can be made after you terminate an employment contract.

The first is the general employment earnings that an employee would have received if they were still working in the notice period: outstanding salary/wages, payment in lieu of notice (PILON) if relevant, and any holiday pay for instance.

Much of this money is referred to as post-employment notice pay (PENP) and is always subject to income tax and National Insurance contributions (NICs).

Prior to 2018, there were exemptions which could appear to be rather arbitrary, coming down to how contracts were worded.

The second category is termination payments. These directly relate to the termination of employment, so they include things like compensation for loss of office.

How tax is applied

You might have a £30,000 tax-free figure in mind, and this broadly applies today. However, the rules changed in 2018 and more changes came into effect from April 2020, affecting what counts within the £30,000 allowance.

When you pay an employee you are making redundant a final termination sum, this is made up of these two categories of payment we have just outlined.

If all of the money is classed as PENP or other general earnings, such as benefits-in-kind – like keeping a company car – or accrued holiday pay, the cash value for it is all considered general earnings and taxed accordingly. No £30,000 tax exemption comes into play.

If only some of the final payment is PENP and other general earnings, then this part is taxed as general earnings.

But that leaves a further aspect of the payment which the £30,000 tax exemption can be applied against.

So, up to the next £30,000 of payment is tax-free for both PAYE and NICs purposes.

Costs about to increase

As has long been the case, any excess above this £30,000 would again become subject to income tax for the employee.

Until April 2020, that was the end of the tax liability on this part of the termination payment with no NICs liability arising. This remains the case for the employee.

Class 1A employers’ NICs are now payable on termination payments in excess of £30,000, making some redundancies far more expensive for the employer than previously. Class 1A NICs are currently due at 13.8%, rising to 15.05% from next month.

Unlike other class 1A NICs associated with taxable P11D benefits, which are payable once a year on 19 or 22 July following the tax year-end, this class 1A NICs liability will be collected through real-time information/PAYE at the time of the termination payment, resulting in additional cashflow pressure.

HMRC will usually charge late-payment interest and penalties if it is not paid promptly and correctly.

How the PENP calculation works

To calculate the PENP, the following statutory formula applies:

PENP = (monthly basic pay (BP) x unworked notice period (D)) divided by the number of days in the last pay period (P) less any payments or benefits in connection with the termination already taxed elsewhere (T).

Basic pay includes any amounts given up in salary sacrifice arrangements, but excludes benefits-in-kind, commissions and bonuses among other payments.

T includes the value of a contractual termination payment, such as a payment-in-lieu of notice (PILON), but does not include accrued holiday, termination bonuses or ‘golden handshakes’.

In practice, if you are already planning to tax the employee PILON and the value of the PENP is less than this or the same, there might be nothing else to tax.

If this is not the case, you will need to consider what other payments are being made to the employee and their tax treatment, including whether it would fall within the £30,000 exemption. This is best illustrated through an example.

Example

Bruce is notified on 15 February 2022 of your intention to make him redundant, and his last day is agreed as 28 February.

Bruce’s contract states he should receive three months’ notice. D is therefore 76 days as his contractual notice period goes up to 15 May 2022.

Bruce earns £60,000 a year in basic salary, so his monthly ‘BP’ amount will be £5,000. And his last pay period was the full month of January which was 31 days – the ‘P’. However, since D is not a whole number of months, 30.42 should be used as P.

Bruce will not be paid in lieu of notice, but you have instead agreed to pay him £24,000 as an ex-gratia lump sum, plus £10,000 for loss of notice and £2,000 in accrued holiday pay.

In total, he will receive £36,000. In order to work out how much he should be taxed on this amount, the statutory formula to work out the PENP needs to be followed.

Applying the formula gives Bruce a PENP figure of £12,491. As he has not been made any taxable payments in lieu of notice, T is zero and nothing is deducted from this figure.

The full PENP of £12,491 is therefore taxable as earnings. The £2,000 from accrued holiday pay also remains fully taxable as earnings.

The balance of £21,509 is treated as the ex-gratia payment and it is not subject to any tax as it is under £30,000.

If the numbers were different and the outstanding ex-gratia payment had been, say, £40,000, then further income tax would have been due on the excess above £30,000.

You would be liable for an additional 13.8% (15.05% from 6 April 2022) in class 1A NICs on the £10,000 excess.

Long-term planning

With the UK economy experiencing turbulence due to the effects of the pandemic and Brexit, many employers are facing difficult decisions to control costs.

The cost-of-living crisis caused by a cocktail of rising inflation and soaring energy prices also means it might be very harsh to consider cutting staff at this time.

And then there’s the 1.25% increase to all NICs rates kicking in from April 2022, which has to be factored into the equation to make redundancies this year.

That said, if you think there is a negative outlook for your business in 2022/23, it would be wise to explore your options now around making redundancies.

The pay and tax calculations involved with termination payments are complex, but we can help you with managing costs within your business.

Speak to us about termination payments.

March 2022

Changes to reform multiple dwellings relief and how stamp duty land tax is calculated on purchases of mixed-use properties could be in the pipeline.

A 12-week consultation closed last month, after HMRC sought feedback on proposals to crack down on abuse by restricting homeowners from obtaining the relief.

Multiple dwellings relief is available when at least two dwellings are purchased in a single transaction, or as part of a series of linked transactions between the same vendor and purchaser.

The buyer can choose to apply the rate of stamp duty land tax determined by the average value of the dwellings, rather than the combined value of the purchase.

This enables the buyer to benefit from multiple nil-rate and lower percentage bandings, significantly reducing their stamp duty land tax liability.

HMRC could restrict the relief so it can only be claimed if all properties are, or a single property is, bought for a qualifying business use.

Alternatively, the tax authority could introduce a subsidiary dwelling rule to prevent smaller subsidiary dwellings, such as a ‘granny annex’, from qualifying for the relief due to their size or value.

The other option was for the relief to only apply to purchases which include three or more dwellings, meaning a lot of properties could fall outside of scope for the relief.

Mixed-use properties are those which consist of both residential and non-residential uses, such as a flat above a shop or pub. Purchases of these properties are subject to stamp duty land tax at the non-residential rates.

These rates offer lower stamp duty land tax bands and are not subject to any surcharge, leading HMRC to believe some purchasers have gained from including token amounts of non-residential property within residential purchases.

To close this loophole, either a new apportionment basis or a new threshold, so that more than 50% of the purchase must include non-residential property to qualify as mixed-use, could kick in.

Talk to us about property taxes.

March 2022

More than two million people missed a self-assessment tax return deadline on 31 January 2022, according to HMRC. 

The tax authority said more than 10.2 million returns were filed ahead of the original deadline, leaving 2.3 million still to file.

Late-filers had until 28 February 2022 to file their 2020/21 tax returns online before being fined, due to pressures ensuing from the pandemic.

However, interest on outstanding tax bills is accruing at 3% and HMRC’s late-filing penalties regime kicks in as usual from 1 March 2022.

Late-paying taxpayers have until 1 April 2022 to pay their tax bills in full, or set up a time-to-pay arrangement.

These arrangements spread the cost of repaying tax bills of up to £30,000 into manageable monthly instalments, usually over a period of up to 12 months.

A 5% late-payment penalty will be charged if tax is not paid or a payment plan has not been set up by midnight on 1 April 2022.

Myrtle Lloyd, director-general for customer services at HMRC, said:

“I’d like to thank the millions of customers and agents who sent us their tax returns and paid in time for January’s deadline.

“Customers can set up a monthly payment plan online if they’re worried about paying their tax bill.”

More than 10.2m people filed their 2020/21 tax returns on time, down from 10.7m last year.

Contact us about any aspect of self-assessment.

March 2022

The Treasury is being urged to consider a late U-turn on introducing the National Insurance contributions (NICs) increase next month to boost apprenticeships. 

All NICs rates will increase by 1.25% from April 2022 to help fund the development of the new health-and-social-care levy, which kicks in from April 2023.

The Federation of Small Businesses (FSB) wants ministers to ditch increasing the so-called ‘jobs tax’ to help recover lost apprenticeship numbers.

The FSB claimed apprenticeship starts fell from just under 500,000 a year in 2016/17, before the introduction of the apprenticeship levy, to under 325,000 in 2020/21.

To address this downward trend, the FSB wants the Treasury to remove all employer NICs costs for apprentices, plus cancelling the planned increases to NICs and dividend taxation to free up funds for recruitment and training.

It also would like the apprentice payment, which was worth £3,000 to employers that hired apprentices, to be reinstated after the scheme closed on 31 January 2022.

Mike Cherry, chairman at the FSB, said:

“By looking again at its approach to NICs, the Government can make a real difference here – directly, by bringing down the immediate costs of taking an apprentice on, and indirectly, by freeing up more funds for recruitment and training at a moment when cash reserves are depleted.

“Small businesses disproportionately hire young people and those from disadvantaged groups when they create apprenticeships, so a targeted reintroduction of the hiring incentive that existed over lockdowns makes sense in the context of the levelling-up agenda.”

However, the Government has no intention to renege on its promise after a spokesperson said Chancellor Rishi Sunak is “fully committed” to increase NICs and dividends tax.

Despite being written into law, this could yet change amid growing concerns over rising energy prices and the cost-of-living crisis engulfing many households.

Contact us to discuss managing costs. 

March 2022

Film-makers and video-game developers will be among the creative firms that can benefit from a new £50 million pot. 

The Department for Culture, Media and Sport (DCMS) has announced a multi-year UK global screen fund will open soon.

That will provide £21m towards promoting UK films globally over the next three years, following a successful trial run over the last 12 months.

In addition, the creative scale-up programme offers £18m of new funding to help creative firms grow outside of London.

A further £8m has been earmarked via the UK games fund to offer £25,000 grants to entrepreneurial, startup developers to support business development.

DCMS said, on average, domestic-based creative industries are growing almost two times faster than other sectors of the UK economy.

Nadine Dorries, culture secretary, said:

“The creative industries in the UK are truly world-class and this will provide them with the tools they need to expand and provide even more jobs.”

Caroline Norbury, chief executive at Creative UK, added:

“This funding rightly recognises the power of our sector and the vital importance of investing in creativity to drive growth and innovation across the UK.”

The Government intends the funding to help “drive economic growth around the UK” as part of its wider levelling-up initiative.

Speak to us about your business growth plans. 

March 2022

HMRC waives penalties again for late self-assessment

Anyone who missed last month’s self-assessment deadline has until 28 February 2022 to file their tax returns online before being fined. 

HMRC said last month that fines would not be enforced on taxpayers who missed the 2020/21 deadline at midnight on 31 January 2022.

The tax authority said COVID-19 had piled added pressure on individuals and tax advisers to beat the original deadline for online submissions.

It is the second successive tax year that such a decision has been taken on self-assessment penalties, due to the pandemic.

Anyone who could not pay their tax bill by 31 January 2022 has until 1 April 2022 to either pay their liability in full, or set up a time-to-pay arrangement.

A 5% late-payment penalty will be charged if tax is not paid or a payment plan has not been set up by midnight on 1 April 2022.

Interest, however, continues to accrue at 2.75% on any outstanding liabilities from 1 February 2022 onwards.

Angela MacDonald, deputy chief executive at HMRC, said:

“We know the pressures individuals and businesses are again facing this year, due to the impacts of COVID-19.

“Waiving penalties for one month gives self-assessment taxpayers extra time to meet their obligations.”

The late-filing penalties (daily penalties from three, six and 12 months) will operate as usual from 1 March 2022.

Get in touch to discuss self-assessment.

February 2022

Omicron-hit employers can reclaim statutory sick pay

Small and medium-sized employers can reclaim money from the Treasury to cover statutory sick pay (SSP) paid to employees with COVID-19.

Chancellor Rishi Sunak reintroduced the SSP rebate scheme last month, after it initially closed on 30 September 2021.

It forms part of a series of measures announced to support businesses affected by the new wave of COVID-19 infections caused by the Omicron variant.

The scheme means employers with fewer than 250 employees can get SSP reimbursed for COVID-related absences, for up to two weeks per worker.

Most employers have to pay SSP of £96.35 a week to employees who are off sick or isolating for more than four consecutive days, including non-working days.

The cost of providing SSP is one of employers’ main concerns, with reports claiming they face the prospect of up to a million absences in the first months of 2022.

Mike Cherry, chairman at the Federation of Small Businesses, said:

“This will reduce stress for small employers up and down the country, helping those who are struggling most with depleted cashflow.

“It’s vital that small firms – once again up against a massively disrupted festive season – can reclaim the costs of supporting staff.”

Talk to us about managing payroll. 

February 2022

Deadline looms for new hospitality and leisure grants

Eligible businesses in England have until the end of this month to apply for the new Omicron hospitality and leisure grants.

The Treasury announced more support for hospitality, leisure and accommodation businesses before Christmas last year.

Chancellor Rishi Sunak said at that time the new grant scheme was part of a new support package worth £1 billion.

That followed hospitality and leisure firms being hit by a collapse in bookings amid consumer concerns over the spread of Omicron.

According to Hospitality UK, many of these businesses reported lost trade in December 2021 – often their most profitable month – of 40-60%.

Restaurants, bars, cinemas and theatres in England have until an specified date in February 2022, determined by local authorities, to apply for a grant of up to £6,000 for each of their premises.

The Treasury has set aside an initial £683 million for these firms and it will be provided under existing council-run schemes.

The scheme is based on business rates. Firms with a rateable value of up to £15,000 will be eligible for grants of up to £2,700.

Those with a rateable value from £15,000 to £51,000 will be eligible for grants of up to £4,000.

Those with rateable values over £51,000 can get the £6,000 grants, so larger chains will be the ones to benefit from the top end of this support.

To receive funding, businesses must have been trading on 30 December 2021 and be the current ratepayer in occupation of business premises appearing on the local rating list on the same date.

Successful applicants will receive their grants on or before 31 March 2022.

Speak to us about managing cashflow.

February 2022

How to value your business in 2022

Is it only worth what the buyer wants to pay?

The last year has been challenging for all of us, let alone business owners who’ve had to claim emergency support and battled hard to stay afloat. 

Having survived those choppy waters, maybe it’s time to get your business valued as thoughts drift towards an exit strategy or securing external investment to facilitate growth.

It might be difficult to say what that value is from within your business. After all, you’ve put hours of hard work into building your business from the ground up. But what does that translate to in monetary terms?

A good place to start is to know exactly what it is you’re selling. That could be the name of your business and its reputation, or a lease on a premises you or your company currently own.

Then there’s the type of business you are, the sector you operate in, any assets it holds, and the people who work there. Those factors all contribute to your business’s overall value and its appeal to buyers.

Like most things, a business is only worth what a buyer is willing to pay for it.

However, having a clear picture is a great starting point when it comes to reaching an accurate valuation of your business, and to attract potential buyers.

Why value your business?

Valuing a business is usually done because you want to sell up and do something else, or to raise investment within your business, but other reasons also abound.

When it comes to selling your business, valuations can also help you to determine the right time to sell, to negotiate the best possible deal, or to move negotiations along.

Valuations can also be particularly useful to know when you’re planning your retirement, and thinking about your financial future and that of your family.

Research by Which? suggests one-person households spend an average of £19,000 a year and households with two people spend an average of £26,000 a year.

The latter figure covers all the basic areas of expenditure and some luxuries, such as European holidays (when we’re allowed to go overseas), hobbies and dining out.

Alternatively, a business valuation can help you grow your business. You could even choose to carry out annual valuations to give you an accurate picture of the stage your business is at.

Things to consider

Several factors might come into play when determining your business’s value, and some of these are included in the valuation methods we’ll describe in more detail later.

Assets and liabilities: What assets do your business own? How full is your order book? Be transparent about any debt or other liabilities the business has.

Business age: Startups might have a lot of potential on their side, but they often make losses. More established businesses tend to be profit-making and face fewer risks in the eyes of buyers or investors.

Circumstances: Has the pandemic put you under pressure to sell quickly in order to repay debts or retire due to ill-health? Fire sales usually result in lower offers.

Finance: Do you have historical and current cashflow and profit projections? How well do you control costs? These factors play a big role in valuing your business.

Market demand: Market conditions tend to affect all businesses. Being able to show demand for your products or services will be very attractive to buyers or investors.

Reputation and customers: Does your business come with a good client base and a reputation for quality products or services? Having consumers’ trust can really boost the value of your business.

Staff: Is staff turnover high or do you reward employees via pay rises and benefits-in-kind? Good levels of staff retention retains experience and ties in with your business’s reputation.

Business valuation methods

Once you’ve gathered together all of the relevant information about your business, it’s time to get into the technical details of calculating its value.

There are five main methods for this, which we’ve set out below.

The most appropriate valuation method for you will largely depend on the type of business you operate: the sector it’s in, the size of the business, how long it’s been running, and so on.

Most people will use a combination of two or more methods to reach a final figure for their business’s value.

Valuing assets

Established businesses, such as those in manufacturing or property, are usually valued by the tangible assets they own, minus any liabilities. The overall value is based on that figure.

This method makes sense if you have a stable business with assets that have measurable value, and usually a physical form, such as equipment, machinery, furniture, land, and so on.

Valuations on intangible assets

Intangible assets, such as the skills and experience of your workforce, or intellectual property like patents, copyrights and trademarks, tend to be much more difficult to value.

That extends to negotiating skills, desirable relationships with customers or suppliers, and a strong management team and loyal staff who won’t jump ship at the first sign of a pay rise.

While you can’t put a figure on these types of assets, they play a key role in driving the business forward. Having them will certainly be more attractive to a buyer.

Discounted cashflow

Bigger companies with fairly stable cashflow can be valued using the discounted cashflow method, although this has become more difficult to predict since the pandemic.

Essentially, it works by using forecasts for several years to work out what a business’s future cashflow is worth today.

The business’s value is worked out at a discounted rate, to take into account potential risks and the decreasing value of money over time.

This method relies on several assumptions about long-term conditions. But as COVID-19 shows, nobody knows what’s around the corner and that makes this method more complex than it already was.

Entry-cost valuation

A much more simple method than discounted cashflow arrives in the form of entry-cost valuation. This is a way of working out a business’s value by estimating how much it would cost to launch a similar startup.

It should factor in the cost of everything from raising finance, buying assets and developing products, to employing and training staff, or building a customer base.

This method can also factor in any savings you could make, such as adopting more advanced technology, using cheaper materials, or basing the business in a less expensive area.

Price-to-earnings ratio

If your business has an established track record of making profits, the chances are it will be valued by its price-to-earnings ratio, or multiples of profit.

Calculations for these ratios are usually driven by profits. For example, if a firm has high forecast profit growth or a good record or repeat earnings, it could result in a higher ratio.

Let’s say you own a tech business which has £500,000 post-tax profits and you apply a ratio of four to it. This would mean your firm is valued at £2 million

There’s no such thing as a standard ratio that can be used to value all businesses, and the ratios can wildly differ.

Get in touch to value your business.

February 2022

Treasury’s pensions tax relief bill soars past £42bn

The costs involved with providing pensions tax relief are predicted to have increased to £42.7 billion in 2020/21, according to HMRC. 

Forecasts for the 2020/21 tax year showed another steady annual rise, following estimates of £41.3bn in 2019/20 and £38.2bn in 2018/19.

The 2020/21 figure of £42.7bn was split between £22.9bn in income tax and £19.8bn in National Insurance contributions.

Taxpayers receive this relief at their marginal rate of income tax, meaning those in the basic-rate band get 20% relief, rising to 40% and 45% in the higher and additional-rate bands.

Meanwhile, employer contributions to occupational schemes got £21.1bn in relief during 2019/20, £8.6bn of which went to the public sector.

The data also showed that employer tax relief on contributions to defined-benefit pensions increased by £400m to £15bn over the four years to 2019/20, while tax relief on contributions to defined-contribution schemes increased £4bn to £11.6bn.

The official data reignites speculation that Chancellor Rishi Sunak could be tempted once again to cut one of the Treasury’s most costly burdens.

However, the headline figure of how much pensions tax relief “costs” masks a multitude of underlying factors.

Steve Cameron, pensions director at Aegon, said:

“The figure mixes employer and employee contributions and to date, suggestions for pensions tax relief reform have focussed on employee tax relief, although moving to a flat rate might require higher-rate taxpayers to have employer contributions taxed as a benefit-in-kind to avoid a salary-sacrifice loophole.

“The other major factor is defined benefit versus defined contribution [pension schemes].

“Reforms will be particularly complex for defined benefit but omitting the latter would be grossly unfair and would also significantly reduce any ‘saving’ for the Treasury.”

Contact us about any aspect of pensions.

February 2022