In Lieu of Notice (PILON): Definition & How It Works

Pay in lieu of notice (PILON) is an amount paid to an employee by their employer in place of the working notice period required under the employment contract or statute. When an employer decides to terminate employment immediately rather than asking the employee to work through their notice period, PILON compensates the employee for the income they would have earned during that period.

In the UK, PILON is a common but frequently misunderstood concept. The tax treatment, contractual obligations, and statutory requirements differ significantly depending on the nature of the payment and the terms of the employment contract.

Key Takeaways

• PILON replaces the working notice period with an immediate payment equal to the notice period salary.
• Contractual PILON is governed by the employment contract and may be paid at the employer’s discretion.
• Statutory PILON applies when an employer does not require the employee to work their statutory notice period.
• HMRC treats PILON payments differently from redundancy pay and statutory payments — tax and National Insurance apply to PILON in most cases.
• Employers must handle PILON carefully to avoid tribunal claims, particularly for unfair dismissal.

What Is Pay in Lieu of Notice?

Pay in lieu of notice is a payment made to an employee when the employer chooses not to require the employee to work their notice period. Instead of the employee working through the notice period, they receive a lump sum equivalent to the salary and benefits they would have earned during that time.

In the UK, notice periods arise from two sources:

1. Contractual notice — The period specified in the employment contract (e.g., one month, three months).
2. Statutory notice — The minimum notice period required by the Employment Rights Act 1996, which depends on length of service:
   • 1 month to 2 years of service: 1 week’s notice
   • 2 to 12 years of service: 1 week per year of service
   • 12+ years of service: 12 weeks’ notice

The employer may choose to pay PILON rather than require the employee to work their notice for various reasons — including protecting confidential information, avoiding disruption, or simply because the relationship has broken down.

Contractual vs Statutory PILON

The distinction between contractual and statutory PILON is critical because it determines tax treatment:

Contractual PILON

If the employment contract includes a PILON clause, the payment is made under the terms of the contract. The employer exercises the right granted by the clause to pay salary in lieu of the notice period. Contractual PILON is typically taxed as employment income — subject to income tax and National Insurance contributions (NICs).

A well-drafted PILON clause specifies:

• The amount payable (usually the employee’s full salary and benefits for the notice period).
• Whether the clause is discretionary or mandatory.
• Any offset provisions (e.g., reducing the PILON payment by any earnings the employee receives from new employment during the notice period).

Statutory PILON

When there is no contractual PILON clause but the employer does not require the employee to work their statutory notice period, the employer may still make a payment. This is sometimes referred to as a “payment in lieu of statutory notice.” However, HMRC’s treatment of this payment is different — it is treated as a payment of earnings and is subject to income tax and employee NICs. Employer NICs also apply.

Tax Treatment of PILON

HMRC rules on PILON are specific and must be followed carefully:

Payment Type	Income Tax	Employee NIC	Employer NIC
Contractual PILON (with clause)	Yes	Yes	Yes
Statutory PILON (no clause)	Yes	Yes	Yes
Redundancy payment (statutory or enhanced)	Partially exempt	No	No

The key distinction is that PILON is treated as earnings from employment, not as a capital payment. This means:

• Income tax is deducted at source through PAYE.
• Employee and employer National Insurance contributions are payable.
• It is not eligible for the £30,000 tax-free threshold that applies to statutory redundancy payments.

If the payment includes elements beyond salary (e.g., benefits, bonuses), the full value must be reported through PAYE.

Employer Obligations

When making a PILON payment, employers must:

1. Check the employment contract. Confirm whether a PILON clause exists. If it does, follow the clause precisely. If it does not, the payment is a matter of negotiation or goodwill.
2. Calculate the payment correctly. Include the employee’s full salary for the notice period, plus any benefits that would have been received (e.g., private health insurance, pension contributions, company car allowance).
3. Process through PAYE. PILON payments must be reported through Real Time Information (RTI) and deducted via PAYE. They are not exempt from tax or NICs.
4. Provide a payslip. The employee is entitled to a payslip showing the gross payment, tax and NIC deductions, and net amount.
5. Issue a P45. The employee’s P45 should be issued with the PILON payment included as part of their final pay.
6. Consider the impact on notice period. If the employee has a contractual PILON clause and the employer exercises it, the employment terminates on the date specified in the contract — not at the end of the notice period.

PILON vs Garden Leave

PILON is often compared to garden leave, but they are distinct arrangements:

Factor	PILON	Garden Leave
Employee works during notice?	No — employment ends immediately	No — employee stays home on full pay
Employment relationship ends?	Yes — on the date of the PILON payment	No — the employment continues through the notice period
Tax treatment	Taxed as earnings	Taxed as earnings
Restrictive covenants enforceable?	May be harder to enforce without continued employment	Easier to enforce — employment relationship is maintained
Notice period	Terminated immediately	Employee remains employed but does not work

Garden leave is often preferred when the employer wants to enforce restrictive covenants or non-compete clauses, because the employment relationship remains active during the notice period. PILON is preferred when an immediate clean break is desired.

Frequently Asked Questions

Is pay in lieu of notice tax-free?

No. PILON payments are subject to income tax and National Insurance contributions, regardless of whether they are made under a contractual clause or as a statutory payment. Unlike redundancy pay, PILON does not benefit from the £30,000 tax-free exemption.

Does my employer have to pay PILON?

Not necessarily. If your contract does not contain a PILON clause, your employer is not obligated to pay you in lieu of notice — they can require you to work your notice period instead. Conversely, if the employer does not have a PILON clause, they may choose to let you go without notice, but you could claim wrongful dismissal.

Can PILON be offset against new earnings?

If your employment contract includes an offset clause, the employer can reduce the PILON payment by any earnings you receive from new employment during the notice period. Without such a clause, the full PILON amount is payable regardless of subsequent employment.

How is PILON different from redundancy pay?

Redundancy pay compensates an employee for the loss of their job due to redundancy — it has its own statutory minimum and tax-free allowances. PILON compensates the employee for the notice period they would otherwise have worked. The two are separate entitlements and can both apply in a redundancy situation.

Do I receive PILON if I am dismissed for gross misconduct?

Typically, no. If an employee is dismissed for gross misconduct, the employer is unlikely to offer PILON. Gross misconduct justifies summary dismissal — termination without notice or payment in lieu of notice. However, the employer must still follow a fair investigation and disciplinary process.

This article is general information, not legal advice. Consult a qualified employment solicitor for guidance specific to your situation.