Termination & Redundancy Payments: How They're Taxed in the…

If you've been handed a redundancy or settlement offer, the headline figure is almost never the amount that lands in your bank account. Part of a genuine termination payment can be paid free of income tax and National Insurance, but a large slice — notice pay in particular — is taxed exactly like ordinary salary. Getting the split right is the difference between a pleasant surprise and a nasty one.

This guide walks through how termination and redundancy payments are taxed in 2026/27: the £30,000 exemption, what counts towards it, what's fully taxable, how the excess is hit with income tax and employer National Insurance, and how to sanity-check the figure on your settlement agreement. We finish with a worked example that splits a £45,000 package into its tax-free and taxable parts.

The headline: the first £30,000 can be tax-free

The core rule is simple to state. The first £30,000 of a genuine termination payment — money paid because your employment is ending, rather than money you were owed for working — is free of both income tax and National Insurance. Anything above £30,000 is taxable.

The word "genuine" is doing a lot of work. The exemption only applies to payments that are truly compensation for losing your job, such as an ex-gratia redundancy top-up or a settlement payment to end an employment dispute. It does not apply to amounts you were contractually entitled to as part of working out your time — and that is where most people's expectations go wrong.

What counts towards the £30,000 exemption

The following typically sit inside the £30,000 tax-free band:

Statutory redundancy pay — the legal minimum your employer must pay when making you redundant. It is tax-free and free of NIC, and it counts towards (uses up part of) your £30,000 allowance.
Enhanced or ex-gratia redundancy — any genuine extra compensation your employer pays on top of the statutory minimum, where it is a true payment for loss of the job rather than for services rendered.
Compensation for loss of office — a settlement paid to bring the employment relationship to an end, for example under a settlement agreement.

Because statutory redundancy already eats into the £30,000, a large statutory entitlement leaves less headroom for an ex-gratia top-up to be sheltered.

What does NOT get the exemption — PILON and PENP

This is the part employers and employees most often misunderstand. The following are fully taxable and subject to National Insurance, and get no part of the £30,000 exemption:

Contractual pay in lieu of notice (PILON) — if your contract lets the employer pay you instead of working your notice, that payment is earnings. It is taxed and NIC'd like salary.
Post-employment notice pay (PENP) — even where there is no contractual PILON clause, HMRC rules require you to calculate the pay you would have received for any unworked notice period. That PENP amount is treated as earnings and is fully taxable and NIC-able. It cannot be dressed up as tax-free compensation.

The PENP rules exist precisely to stop notice pay being relabelled as a tax-free termination payment. Whatever the settlement letter calls it, the value of your unworked notice is taxed as income — the £30,000 exemption only applies to the genuine compensation that sits above your notice pay.

Other amounts that are also fully taxable in the normal way include outstanding salary, accrued but untaken holiday pay, and any bonus you've earned. None of these are "compensation for losing your job" — they are pay for work, so they don't touch the exemption.

The table below shows, at a glance, which parts of a typical package qualify for the £30,000 exemption and which do not:

Element of the package	Income tax	National Insurance	Counts towards £30,000 exemption?
Statutory redundancy pay	Tax-free	None	Yes (uses up part of it)
Genuine ex-gratia / loss of office	Tax-free up to £30,000	None up to £30,000	Yes
PILON / post-employment notice pay (PENP)	Fully taxable	Employee and employer NIC	No
Outstanding salary, holiday pay, bonus	Fully taxable	Employee and employer NIC	No
Genuine compensation above £30,000	Taxed at marginal rate	Employer Class 1A only (no employee NIC)	Exceeds the exemption

How amounts over £30,000 are taxed

Once your genuine termination payment exceeds £30,000, the excess is added to your taxable income for the year and taxed at your marginal rate. For 2026/27 the bands are:

Personal allowance — £12,570 (0%).
Basic rate — 20% on income from £12,571 to £50,270.
Higher rate — 40% on income from £50,271 to £125,140.
Additional rate — 45% on income over £125,140.

These thresholds are frozen until 5 April 2031, a freeze extended in the November 2025 Budget. That matters for redundancy: a lump sum stacked on top of your normal salary can easily push the taxable excess into the higher- or additional-rate band, and frozen thresholds mean fiscal drag does the rest. For a refresher on how the bands fit together, see our guide to how much you can earn before paying tax.

Watch the £100,000 trap

If a large payout pushes your adjusted net income over £100,000, your personal allowance is withdrawn by £1 for every £2 above £100,000, disappearing entirely at £125,140. Across that band the effective marginal rate is around 60%. A personal pension contribution (or a Gift Aid donation) can reduce adjusted net income and claw the allowance back — worth modelling before you accept the timing of a payment.

Employer Class 1A NIC since April 2020

Before April 2020, the excess over £30,000 was subject to income tax but escaped employer National Insurance. That changed. Since 6 April 2020, the part of a termination payment above £30,000 attracts employer Class 1A National Insurance.

Two practical points follow:

There is no employee NIC on the excess. You pay income tax on the amount over £30,000, but you do not pay employee National Insurance on it.
The Class 1A is the employer's cost, not yours. But because it makes large payouts more expensive for the business, it can influence how generous an offer the employer is willing to make. Employers who want to understand this side of the cost can read our guide to employer's National Insurance in 2026/27.

Worked example: splitting a £45,000 package

Priya is made redundant part-way through 2026/27. Her settlement totals £45,000, broken down by her employer as:

£8,000 statutory redundancy pay;
£10,000 post-employment notice pay (PENP) for her unworked notice period;
£27,000 ex-gratia compensation for loss of office.

Step 1 — strip out the fully taxable notice pay. The £10,000 PENP is earnings. It is taxed and NIC'd like salary and gets none of the £30,000 exemption. It is taxed at Priya's marginal rate alongside her other income for the year.

Step 2 — apply the £30,000 exemption to the genuine compensation. The statutory redundancy (£8,000) plus the ex-gratia compensation (£27,000) total £35,000 of genuine termination payment. The first £30,000 of this is free of income tax and National Insurance.

Step 3 — tax the excess. £35,000 − £30,000 = £5,000 is taxable. This £5,000 is added to Priya's income and taxed at her marginal rate (and attracts employer Class 1A NIC, paid by the employer, not by Priya). There is no employee NIC on this £5,000.

Result. Of the £45,000 package, £30,000 is tax-free. The remaining £15,000 — the £10,000 PENP plus the £5,000 excess over the exemption — is taxable. If that £15,000 falls in Priya's basic-rate band she pays 20%; if it tips her into higher rate, the part above £50,270 is taxed at 40%. Only the PENP carries employee NIC; the £5,000 excess does not.

How to check your settlement or redundancy figure

Before you sign, read the breakdown line by line:

Identify the notice pay. Find the PILON or PENP figure. Confirm it is being taxed as earnings — if a settlement tries to treat notice pay as tax-free, that is a red flag HMRC will not accept.
Check what's labelled "ex-gratia" or "compensation". Only genuine compensation for loss of office, plus statutory redundancy, should sit inside the £30,000 band.
Remember statutory redundancy uses up the allowance. If your statutory entitlement is large, less of any top-up will be sheltered.
Recalculate the taxable excess yourself. Add statutory redundancy and genuine ex-gratia together, subtract £30,000, and tax what's left at your marginal rate.
Model your total income for the year. A mid-year payout combined with salary already earned can push you into a higher band — or over £100,000.

Do you need to file a tax return?

Most termination payments are taxed through payroll under PAYE, so you may not need to do anything. But if you've crossed into higher rate, want to claim pension relief to recover your personal allowance, or have other untaxed income, a return may be due. Our guides on whether you need to do a Self Assessment and how your Self Assessment bill is calculated will help you decide.

If too much tax was deducted at source — common when a lump sum triggers an emergency tax code — you can reclaim the overpayment from HMRC after the tax year ends, or sometimes sooner.

Common mistakes to avoid

Assuming the whole payment is tax-free. Only genuine compensation up to £30,000 is. Notice pay and earnings are not.
Treating PENP as compensation. The PENP rules are specifically designed to catch this. The value of unworked notice is always earnings.
Forgetting holiday pay and bonuses are taxable. These are pay for work, not compensation.
Ignoring the timing. When a payment lands in the tax year can change which band the excess falls into.

FAQs

Is statutory redundancy pay tax-free in the UK?

Yes. Statutory redundancy pay is free of income tax and National Insurance. However, it counts towards your £30,000 tax-free exemption, so it uses up part of the allowance available to shelter any additional ex-gratia compensation.

Why is my pay in lieu of notice (PILON) taxed?

Pay in lieu of notice — and post-employment notice pay (PENP) for unworked notice — is treated as earnings, not compensation for losing your job. It is fully subject to income tax and National Insurance and gets no part of the £30,000 exemption.

How is the part of a redundancy payment over £30,000 taxed?

The excess above £30,000 is added to your income and taxed at your marginal rate — 20%, 40% or 45% in 2026/27. Since 6 April 2020 it also attracts employer Class 1A National Insurance, paid by the employer. There is no employee NIC on the excess.

Will I get my whole £45,000 settlement tax-free?

No. Only genuine termination compensation up to £30,000 is tax-free. Notice pay, holiday pay and earned bonuses are fully taxable, and any genuine compensation above £30,000 is taxed too. In a typical £45,000 package, often only £30,000 escapes tax.