The Court of Appeal has confirmed that cash payments to employees agreeing to give up future pension rights are subject to tax and national insurance. 

Many employers are closing defined benefit schemes to future accrual and some make payments to employees as a recognition that the employees are moving to less valuable defined contribution schemes. There has been uncertainty about whether these payments are taxable and so this clarity is welcome.

EON proposed detrimental changes to its defined benefit pension scheme and offered members of the scheme a payment in return for agreeing to the changes. HMRC took the view that the payment was taxable. Eon appealed to the First Tier Tribunal which confirmed HMRC's view. The Upper Tribunal disagreed and allowed the appeal ruling that the payment was compensation for adverse changes to future accrual of pension rights. HMRC appealed to the Court of Appeal who restored the First Tier Tribunal's decision, ruling that the payment was not compensation for giving up benefits already earned or contingent benefits but was for giving up the expectation of future pension benefits. As it was effectively an inducement to the employees to remain in employment and to work willingly in the future, the Court of Appeal regarded it as ‘from employment’ and therefore taxable.

This decision makes it clear that cash payments in return for giving up the right to earn particular pension benefits in the future will be subject to tax. Some employers choose to make such payments tax-efficient by offering additional contributions into a defined contribution scheme, which wouldn't normally be subject to tax.

Changing pension benefits is not straightforward with the tax position just one of the challenges, so taking advice on this is recommended!

For advice on changing pension benefits, contact Doug Mullen or Lauren Broderick.