When someone has to leave a business with immediate effect, it can pose a bit of a conundrum for employers. "How do we handle this if we've agreed to a month notice period?"

You don't want them hanging round the office, causing disruption or damage to the company.

PILON payments, short for "payment in lieu of notice," are designed to address this sort of scenario.

Grasping the workings of PILON is pretty important – both for employers and team members – to streamline the termination process and avoid drama. Doing it properly is essential to avoid tribunal claims, damage to the company's image, or employment law headaches.

Below, we’ll share the basics on how it all works. (This is just a general guide, though – in complicated situations, it’s best to seek legal advice.)

What PILON is

PILON stands for ‘Payment in Lieu of Notice’. It’s a payment made by an employer to their worker when the employee's service ends without them working their usual notice period.

Basically, they’re being paid for work without actually working.

Why would an employer do this?

It can be done in situations that need a bit of discretion; where the company needs to get rid of someone quickly without having them around the workplace. There might be a risk of them causing awkward situations with other employees, or taking important company info with them to their new job.

They might be leaving their post earlier than planned because of redundancy, dismissal, or even a settlement agreement (in the case of a workplace dispute).

So the core aim of a PILON payment is to reimburse the employee for the time they would have worked, if they had stayed for their full notice period.

How PILON works

Employees are only entitled to it if they have a PILON clause in their contract of employment. Otherwise this one-off payment can be offered to them by their employer, with both parties agreeing to it if it suits them.

When an employee voluntarily resigns, they must be paid for the legal minimum notice period or the stipulated period in their contract.

The legal minimum notice period depends on how long they’ve been working in their job:

  • Less than 1 month: No notice
  • Between 1 and 24 months = 1 weeks’ notice
  • More than 2 years = 1 weeks’ notice for every year worked, up to a maximum of 12 weeks

Employers can extend more notice than the statutory minimum, but not less.

When there’s a termination of employment due to gross misconduct, no notice period or PILON usually needs to be given.

Like regular income, PILON payments are taxed, alongside a contribution to HMRC through National Insurance. A PILON only replaces basic salary, and won’t include any other payments like bonuses or pension contributions.

How to calculate PILON amounts

To work out someone’s notice pay entitlement, you’ll have to inspect the employee’s contract to see if they have a contractual notice period. If not, you’ll have to go by the statutory notice period.

Calculating Payment in Lieu of Notice (PILON) for an employee is fairly straightforward in most cases. Here's a guide:

1. Determine their notice period: Figure out the notice period as per their contract or the statutory minimum.

2. Calculate their PENP (Post-Employment Notice Pay): PENP is the amount of basic pay someone is owed. PENP is subject to income tax and National Insurance contributions in the same way as normal pay.

It doesn’t include any commission payments, overtime, bonuses or statutory redundancy payment (these are covered in the next step).

You would calculate PENP as the portion of time during the notice period that the employee hasn’t worked.

3. Calculate termination payments:

While PENP covers the normal salaried work someone would have done in their notice period, termination payments are additional payments – commission, bonuses, overtime, and anything else the employer puts in as part of the package.

Termination payments are exempt from taxation up to the first £30,000.

Is holiday pay included in PILON?

There doesn’t seem to be any rules that mandate employers to include unused holiday allowance in a PILON payment. It is usually included to avoid disputes or breach of contract accusations, but it’ll depend on the final agreement and what’s actually laid out in the employee’s employment contract.

PILON and redundancy

Employees who have worked for 2 years or more are entitled to statutory redundancy pay, which is tax-free. If they’re eligible, it should be paid alongside PILON as a separate payment.

In a redundancy situation, several factors affect the amount of redundancy pay someone gets – their age, service duration and salary are the most important. Legally, employers must pay the statutory redundancy payment as a minimum, but some companies might offer more lucrative packages.

What’s the difference between Gardening Leave and PILON?

Garden leave (aka Gardening Leave) makes sure that employees stay away from work during their notice period while getting their full pay. The main difference is that during garden leave, the employee is still employed, but when given PILON, their employment is terminated.

During this time when they’re technically still employed, they still have the same rights and benefits as usual. They won’t be able to work for anyone else during this time.

Garden leave is used when an employee resigns, is made redundant, or is dismissed, mostly to safeguard sensitive company information and avoid awkwardness in the office.

Both strategies aim to safeguard a firm's interests during employee transitions. When deciding between the two, factors like the employee's access to sensitive information play a role. Clear terms for both should be articulated in employment contracts to prevent potential legal quandaries.

Frequently asked questions

- What is PILON? It's a payment compensating employees for their unserved notice period, letting them exit their role instantly.

- How is PILON calculated? It's based on the employee's salary during the notice period, plus potential bonuses and other payments. See the section above for more information.

- Is PILON pensionable? Typically, PILON is not deemed pensionable. However, it's best to consult your pension scheme to be sure.

- Is PILON taxable? Yes, Payment in Lieu of Notice tax does have to be paid. PILON is taxable and subject to National Insurance Contributions.

- What about PILON when employee resigns? When an employee resigns, they still have a contractual right to PILON.