Is PILON Taxable in the UK? PENP Formula and the £30,000 Exemption

Yes, a payment in lieu of notice is taxable in the UK. Since April 2018, HMRC treats every PILON as earnings subject to Income Tax and Class 1 National Insurance, whether or not your contract contains a PILON clause. The taxable amount is set by a statutory formula called Post-Employment Notice Pay (PENP), which acts as a floor: at minimum, the basic salary you would have earned during your unworked notice period is taxed as normal pay. Only what’s left of your termination package after that can shelter under the separate £30,000 exemption.¹

Why Every PILON Is Now Taxed

A PILON is money your employer pays instead of making you work out your notice. If your contract entitles you to three months’ notice but the employer wants you gone immediately, the PILON covers the salary you would have earned in that period.

Before April 2018, the tax treatment depended on your contract wording. A contractual PILON was taxed as earnings, but a non-contractual PILON could sometimes be treated as compensation for loss of employment and sheltered under the £30,000 exemption. Employers structured packages to exploit that difference. HMRC closed the gap with the PENP rules, which tax the notice-pay element of every termination payment the same way regardless of what the contract says.¹

How PENP Decides How Much of Your Payoff Is Taxed

PENP is the minimum amount of your termination package that must be taxed as salary. Even if your employer labels the whole sum “compensation,” HMRC works out how much basic pay you would have earned during your unworked notice period and taxes at least that much through payroll. If your employer pays a specific PILON, the taxable figure is the greater of the PILON paid or the PENP calculation. A negative result is treated as zero.²

The formula is PENP = ((BP × D) / P) − T.

Basic Pay (BP)

BP is your total employment income in the last pay period ending before the “trigger date” (the day notice is given, or your last day of employment if no notice was served). Crucially, BP is basic salary only. HMRC excludes overtime, bonuses, commission, gratuities, and allowances.³ If a big share of your normal earnings comes from commission or bonus, none of that inflates PENP. For salespeople and anyone with variable pay, that matters: the taxable floor is based on fixed salary alone.

Unworked Notice Days (D)

D is the number of calendar days between your last day of employment and the date your employer was lawfully required to let you go. If your contract gives longer notice than the statutory minimum, D uses the contractual period. If it gives less than the statute requires, D uses the statutory minimum.⁴ If you work part of your notice before leaving, only the unworked days count.

Pay Period (P)

P is the number of calendar days in your last pay period ending before the trigger date, typically 30 or 31 days for monthly pay and 14 for fortnightly.⁵

Already-Taxed Amounts (T)

T subtracts any part of the termination payment that has already been taxed as earnings, typically a contractual PILON run through payroll. Holiday pay and termination bonuses are excluded from T, so they don’t reduce your PENP.⁶

A Worked Example

Take an employee on £5,000 basic salary per month, paid monthly, with a three-month contractual notice period. The employer terminates immediately with no notice worked and no prior taxable PILON:

BP: £5,000
D: 90 days
P: 30 days
T: £0

PENP = ((£5,000 × 90) / 30) − £0 = £15,000. That £15,000 must go through payroll as normal earnings. If the employer had only labelled £10,000 as PILON, the £15,000 PENP figure still applies as the taxable floor. Anything paid on top of that can then be tested against the £30,000 exemption.

What Rates Apply to the Taxable Amount

PENP runs through payroll like any salary payment. Your employer deducts PAYE at your marginal rate and reports it through Real Time Information. For 2026/27, the rates in England, Wales, and Northern Ireland are:⁷

Personal Allowance: £12,570
Basic rate: 20% on earnings up to £37,700 above the allowance
Higher rate: 40% from £37,701 to £125,140
Additional rate: 45% above £125,140

Scotland has its own six rates ranging from 19% to 48% for 2026/27, and Scottish taxpayers pay PENP under those instead.⁷

Class 1 NICs also apply. Employees pay 8% on annual earnings between £12,570 and £50,270 and 2% above that. Employers pay 15% above the secondary threshold of £5,000.⁷ The PENP figure will appear in the taxable pay and tax deducted on your P45.

How the £30,000 Exemption Fits Around PENP

PENP is stripped out of your termination package first. Only what remains, if it’s genuinely compensatory rather than salary substitute, can qualify for the £30,000 tax-free exemption.⁸ Payments that can sit inside the exemption include statutory redundancy pay, enhanced redundancy pay offered above the statutory amount, and non-cash benefits like company property you keep.

Anything above £30,000 in that qualifying pot is subject to Income Tax at your marginal rate. Employees don’t pay Class 1 NICs on the excess, but employers pay Class 1A NICs on the amount above £30,000, a charge that has applied since April 2020.⁸

Some payments escape tax entirely, regardless of the £30,000 cap. Payments made because injury, illness, or disability prevents you from continuing in your role are not taxable. Legal costs your employer pays directly to your solicitor under a settlement are also not taxable.⁸

Two Situations Where the Rule Behaves Differently

Gross Misconduct Dismissals

If you’re dismissed for gross misconduct, you leave immediately with no notice entitlement. With no notice period, there are no unworked notice days, so PENP produces no taxable earnings on that basis. Wages already earned, accrued holiday, and outstanding expenses are still taxed as normal pay. Any separate compensation payment the employer chooses to make in that situation would be tested against the £30,000 exemption rather than PENP, because there is no notice pay to “buy out.”

Settlement Agreements

PENP still applies inside a settlement agreement. If you don’t work your notice, the notice pay portion is taxed as earnings whether the agreement calls it PILON or not. There is no way to structure around this. What’s left after the PENP element and any other sums that are already taxable as earnings (unpaid wages, holiday pay, restrictive covenant payments) can then fall under the £30,000 exemption.⁸ This is why settlement agreements itemise every payment: the tax treatment depends on which category each line falls into.

If You Think the Calculation Is Wrong

Employers must calculate PENP correctly and report it through RTI on or before the payment date, with PAYE and NICs deducted. Errors carry HMRC penalties and interest, escalating with how careless or deliberate they are.⁹ If you suspect your employer has miscalculated, work through the formula with your own payslips and contract, and raise it with HMRC directly if the numbers don’t reconcile. Overpaid tax on a termination payment can be reclaimed, but only if you catch it.

1
GOV.UK. New Rules for Taxation of Termination Payments
2
Legislation.gov.uk. Income Tax (Earnings and Pensions) Act 2003 – Section 402D
3
HM Revenue & Customs. PENP Formula – How to Calculate BP
4
GOV.UK. PENP Formula – How to Calculate D
5
GOV.UK. PENP Formula – How to Calculate P
6
GOV.UK. PENP Formula – How to Calculate T
7
GOV.UK. Rates and Thresholds for Employers 2026 to 2027
8
GOV.UK. Tax on Termination Payments – What You Pay Tax and National Insurance On
9
GOV.UK. Penalties – An Overview for Agents and Advisers