Guides/PILON Tax Treatment 2026

Tax Guide

PILON Tax Treatment UK 2026: Pay in Lieu of Notice is Fully Taxable

Written by SettlementCheck Editorial TeamFigures in force from 6 April 2026 (SI 2026/310)Last reviewed: July 2026

No, Pay in Lieu of Notice (PILON) is not tax-free. Under Section 402D of the Income Tax (Earnings and Pensions) Act 2003 ¹, all notice pay is fully taxable. It does not qualify for the £30,000 tax-free threshold ². This rule continues under the April 2026 statutory update ³. Your employer must deduct tax and National Insurance from your PILON.

Key tax rules for PILON

All notice pay is taxable as earnings, regardless of your contract terms.
The £30,000 tax-free exemption does not apply to notice payments.
Employers calculate tax using the Post-Employment Notice Pay formula.

Is PILON taxable?

Yes, Pay in Lieu of Notice (PILON) is fully taxable in the UK. Under Section 402D of the Income Tax (Earnings and Pensions) Act 2003, all notice pay is treated as general earnings. You must pay income tax and National Insurance on the entire notice payment, and it cannot be paid tax-free.

Your notice period is the time between being told your job will end and your final day. Sometimes, your employer does not want you to work this period. They can choose to pay you instead. This payment is called Pay in Lieu of Notice, or PILON.

All notice pay is taxed as normal salary. You must pay income tax and National Insurance on the full amount. This applies whether your contract allows PILON or not.

This tax rule comes from Section 402D of the Income Tax (Earnings and Pensions) Act 2003 ¹. HMRC calls this Post-Employment Notice Pay. It ensures that employees pay the same tax on notice whether they work it or not.

The £30,000 Tax-Free Exemption: What Qualifies?

UK law allows you to receive up to £30,000 of your termination payment tax-free ². However, you cannot apply this exemption to PILON.

Only certain parts of a settlement agreement qualify for the £30,000 tax-free limit. These include:

Statutory redundancy pay, which is capped at £22,530 in Great Britain ⁴ (see our Redundancy Pay Cap Guide).
Ex-gratia payments, which are discretionary compensation payments.

Other payments are always taxed as earnings. These include notice pay, holiday pay, and bonuses. Your employer must deduct tax from these before paying you.

Tax Treatment of Settlement Agreement Components

A settlement agreement often breaks down your payments into different categories. Each category has its own statutory tax rules.

Tax Treatment of Settlement Agreement Components 2026
Component	Tax Treatment	2026 Statutory Limit
PILON (Notice Pay)	Fully taxable (Income Tax & NI)	Taxed as general earnings under Section 402D ¹
Statutory Redundancy	Tax-free up to £30,000 <sup>2</sup>	Capped at £22,530 in GB ^{4, 6} and £23,490 in NI ⁵
Ex-Gratia Payment	Tax-free up to £30,000 <sup>2</sup>	Subject to the combined £30,000 limit ² (see Tax-Free Limit Guide)
Holiday Pay	Fully taxable (Income Tax & NI)	Taxed as normal salary at usual rate
Protective Award	Tax-free up to £30,000 <sup>2</sup>	Compensation capped at 90 days ⁷ (see Protective Award Guide)
Unfair Dismissal Basic Award	Tax-free up to £30,000 <sup>2</sup>	Capped at £22,530 in GB ^{4, 6} (SI 2026/310 ³)
Compensatory Award	Tax-free up to £30,000 <sup>2</sup>	Capped at £123,543 in GB ⁶ (SI 2026/310 ³)

Worked Examples: How PILON Affects Your Take-Home Pay

These three examples show how notice pay and redundancy are taxed in a settlement agreement.

Example 1: Redundancy with No PILON (Notice Worked)

You are redundant. You work your full notice period. You receive a statutory redundancy payment of £8,000.

Your notice pay is paid through payroll. You pay tax and National Insurance on it as usual.

Your £8,000 redundancy payment is paid tax-free. This is because it is below the £30,000 threshold.

Example 2: Redundancy with PILON (Notice Paid in Lieu)

You are redundant. Your employer asks you to leave immediately. They pay you £4,000 in lieu of notice.

They also pay you a £10,000 ex-gratia payment and £5,000 statutory redundancy pay.

Your £4,000 PILON is fully taxable. Your employer deducts tax and National Insurance from it.

The £10,000 ex-gratia payment and £5,000 redundancy pay are combined. This totals £15,000.

This £15,000 is paid tax-free. It falls below the £30,000 exemption limit.

Example 3: Settlement Agreement Exceeding the £30,000 Limit

You sign a settlement agreement. You receive £5,000 PILON.

You also receive £35,000 as ex-gratia compensation.

Your £5,000 PILON is fully taxable. Your employer deducts tax and National Insurance.

The £35,000 ex-gratia payment exceeds the £30,000 limit. The first £30,000 is tax-free.

The remaining £5,000 is taxable. Your employer deducts tax from this excess amount.

How Employers Calculate Notice Pay Tax: What to Check

Your employer must use the Post-Employment Notice Pay (PENP) formula to calculate the tax ¹. This formula is complex.

It calculates how much basic pay you would have earned if you worked your notice. This portion is taxed as earnings.

Any remaining compensation can be paid tax-free under the £30,000 limit. You should check your settlement agreement terms.

Make sure the agreement separates notice pay from compensation. This prevents HMRC from taxing the whole amount. If you are unsure of the numbers, you can check your offer.

You can check your offer to find out where you stand.

Who Pays the Legal Fees for Your Settlement Agreement?

Your employer covers the fees for your solicitor. Under UK law, a settlement agreement is only legally binding if an independent solicitor advises you.

Your employer pays these fees directly to your solicitor. This ensures you receive independent advice without being out of pocket.

What to Do if Your Employer Over-Taxes Your Notice Pay

Employers sometimes make mistakes. They might tax the entire settlement agreement by mistake. Here is what to do:

1
Ask for a detailed breakdown
Your employer must show the PENP calculation. Request a written breakdown from payroll.
2
Check the calculations against your contract
Confirm your notice period and basic pay. Verify if they used the correct notice duration.
3
Request a correction before signing
If there is an error, request a correction before signing. A solicitor can help you resolve this.

Disclaimer: The information on this page is for general guidance only and does not constitute formal legal or tax advice. Legal and tax rules can vary depending on your contract and individual circumstances.

Remember, your employer covers the fees for your solicitor.

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Frequently asked questions

Is PILON always taxable?

Yes, PILON is always fully taxable. You must pay income tax and National Insurance contributions on any notice pay you receive.

Can I use the £30,000 tax-free limit for my notice pay?

No, you cannot. The £30,000 exemption only applies to redundancy and compensation payments, not to notice pay.

How is notice pay tax calculated?

Your employer calculates the tax using the Post-Employment Notice Pay formula. This formula determines the pay you would have received if you worked your notice.

What happens if my contract has no PILON clause?

The tax treatment is the same. HMRC taxes notice pay as general earnings even if your contract does not mention PILON.