Payment in lieu of notice: a guide for employers

What is payment in lieu of notice period or PILON?

Payment in lieu of notice or PILON by definition is the compensation for the immediate dismissal of an employee. Payment in lieu of notice was a clause designed to protect employee rights to the money they would have earned if they were to work throughout their notice period. The PILON clause is the typical course of action when:

• An employer no longer wants an employee to have access to sensitive company information
• The employer feels that the employee will exhibit ongoing disruptive behavior or lack of productivity in the workplace

The reasons for employee dismissal involving PILON benefits include: 

• The end of a fixed-term contract in which the employee is no longer needed during the notice period
• Redundancy
• A settlement agreement

What is the difference between PILON and garden leave?

Payment in lieu of notice is often used interchangeably with the term garden leave.

However, PILON and garden leave are different things. Garden leave refers to the event in which an employee is either terminated or tenders their resignation. They remain on the payroll throughout their notice period but are no longer permitted on workplace grounds. 

If needed, the employee in garden leave can work remotely until their notice period has ended. However, they're prohibited from seeking employment elsewhere or working for themselves during that time.

Unlike garden leave, payment in lieu of notice allows the employee to seek employment elsewhere immediately. Additionally, employees who have tendered their resignations or are terminated due to gross misconduct are not eligible for payment in lieu of notice benefits.

How to manage payment in lieu of notice correctly?

To ensure that the payment in lieu of notice clause in your employee contracts is managed correctly, there are a few things you can do:

• Review your current payment in lieu of notice terms and update them as needed
• Be specific about what your PILON clause covers, what it includes, and the duration of its benefits
• Specify any extras or bonuses within your PILON clause
• Consider your employees' individual needs

If the terms of your payment in lieu of notice clause are crystal clear, there's less of a chance of accidental breaches of contract.

To ensure the terms and conditions of your employee's notice pay, you'll want to review your company's contract of employment often. Go over the details of the PILON payments, terms and conditions, and so on, making sure they're up to date and as explicit as possible.

Remember that, as an employer, you have the right to include conditions such as immediate termination, in case the payment in lieu of notice accrued during the notice period equals the basic pay of the employee's salary. 

Adversely, if you don't make your conditions clear and specific, or don't present a PILON clause in the employee contract, you'll run into some problems. For example, an immediate employee termination would be a breach of contract with payment in lieu of notice.

What to include in a payment in lieu of notice clause?

As we mentioned above, your payment in lieu of notice clause must be explicitly clear so that there are no issues or breach of contract. Here are some specifics you'll want to include when you update your payment in lieu of notice clause:

• The details, including that immediate dismissal, can be made by making a payment in lieu of a basic salary—full pay—for the notice period
• The details of the how, when, and what will be paid to the employee during the payment in lieu of notice period
• The details of whether the amount paid will be limited to the employee's basic salary, including or excluding any extras. (The extra being commission, bonuses, extended company perks—or reimbursement for the loss of company perks) 

It is also critical that you make it clear with the PILON clause that the termination of an employee's contract is effective immediately. You must specify this, noting that immediate termination is effective even if the payment is made at a later date.

Consider extra pay and benefits on top of PILON

Before an employee signs off on a contract with your company, they must agree to the terms of their employment contract. In terms of managing your PILON clause correctly, one thing you'll want to do is take into consideration the needs of your employees.

Keeping the extras and benefits in mind is also an excellent way to avoid a breach of contract if you choose to terminate an employee with payment in lieu of notice.

Here are a few things to consider as extras and benefits besides PILON:

• Including extra pay that the employee would receive for annual leave
• Extra compensation pay, i.e., a severance package
• Continued access to well-being programmes, learning platforms, medical benefits, etc.
• Time off in lieu of PILON period

Taking into consideration your employees' personal needs is essential to peaceful parting. It's an opportunity to demonstrate that as an employer, you care for your employees' well-being.

The challenges employers face with payment in lieu of notice 

There are quite a few reasons why PILON can become tricky, resulting in complications. Those reasons may arise if the employee in question

• Has share options as part of their employee compensation
• Does not agree to the PILON clause/signs an employment contract without a PILON clause
• Stands to lose additional employee benefits not included under PILON clause
• Is receiving medical treatment through company health insurance
• Has evidence of unfair dismissal/the dismissal process was carried out incorrectly

 Aside from taking into consideration your employee's individual needs, having an employment lawyer look over your employee contracts for legal advice is a critical step.

How to calculate payment in lieu of notice?

The best way to calculate payment in lieu of notice is to follow the details of your employment contract.

If a PILON clause isn't included in your employment contract, then you'll have to figure out what the employee would receive during their notice period. That may or may not include any additional benefits or annual leave.

As an employer, you have a legal obligation under PILON tax rules.

Is tax applicable to PILON?

Whether or not PILON payments are tax applicable depends on how they are handled and paid. There are three ways to make PILON payments:

1. Under terms of employment in which employee is entitled to PILON payments
2. Under terms of employment at the employer's discretion
3. Payments made without contractual obligation

The third manner in which PILON payments are made results in a breach of contract. That would mean they are not payable under the terms of employment, and therefore not subject to regular income tax— up to £30,000, according to a measured release by the UK government in April 2018.

A non-contractual PILON payment is essentially an advance payment of damages to compensate an employee for any losses as well as a costly legal claim for you, the employer.

Get help setting up your payment in lieu of notice