How is employment tribunal compensation taxed in the UK?

Full answer

Employment tribunal awards are not automatically tax-free. The tax treatment depends on the type and nature of each element of the award. Basic award The basic award is calculated in the same way as statutory redundancy pay -- using the employee age, weekly pay (capped at GBP 643 in 2026/27) and length of service. It is always exempt from income tax and NI under the redundancy pay exemption in ITEPA 2003 s309. Compensatory award The compensatory award is intended to compensate for financial loss (lost earnings, benefits, pension). It falls under Section 401 ITEPA 2003 (the "termination payments" rules). -- The first GBP 30,000 of the compensatory award is tax-free -- Any amount above GBP 30,000 is taxable as employment income and subject to income tax at the employee's marginal rate -- Employer NI (at 13.8%) applies to the excess above GBP 30,000 -- The GBP 30,000 limit is shared across all payments from the same employment relating to the same termination (so if the employer also made an ex gratia payment on leaving, it reduces the available exemption) Pre-termination notice pay (PENP) Since April 2018, any payment in lieu of notice (PILON) is always taxable regardless of the contract -- calculated using the Post-Employment Notice Pay formula. Where an employment tribunal award includes compensation for the notice period, PENP applies to that element and makes it fully taxable from the first pound. Injury to feelings awards Compensation for injury to feelings arising from discrimination (race, sex, disability, age etc.) is generally exempt from income tax under the personal injury exemption (ITEPA 2003 s406). However, HMRC takes the view that this exemption does not apply where the injury to feelings award is made in connection with termination of employment -- in that case it falls into the GBP 30,000 pool. Awards for genuine psychiatric injury (stress-related illness) remain fully exempt. Post-tribunal interest HMRC regards interest on employment tribunal awards as taxable income -- it is not sheltered by the GBP 30,000 exemption. Practical points The employer is required to operate PAYE on taxable elements of the award. If PAYE is not deducted (as may happen with tribunal-ordered awards), the employee must declare the taxable amount on their Self Assessment return.

Try the calculator