A settlement agreement ends an employment relationship on agreed terms, usually in exchange for a payment. The headline everyone remembers is that £30,000 is tax free, and the headline is only half true. Here is how a settlement payment is actually built, which parts escape tax and which never do, and why the agreement is not binding without independent legal advice.

What is a settlement agreement?

A settlement agreement is a written contract between employer and employee that brings the employment relationship, or a dispute within it, to a close on agreed terms. In exchange for a payment and usually an agreed reference, the employee waives the right to bring the claims listed in the agreement, such as unfair dismissal or discrimination. It was previously known as a compromise agreement.

It is voluntary on both sides. Nobody is obliged to sign, and an employee who does not sign keeps every right they had before the conversation started.

What is a settlement payment actually made of?

This is the part that decides the tax treatment, and it is why two people receiving “£40,000” can take home very different amounts. A settlement package is a stack of separate elements, each taxed on its own rules.

• Outstanding salary and holiday pay: ordinary earnings, taxed as normal through PAYE.
• Notice pay, or payment in lieu of notice: taxed as earnings, with no shelter available.
• Bonus and commission: earnings, taxed as normal.
• Statutory redundancy pay: qualifies as a termination payment, and counts towards the £30,000.
• Ex gratia compensation for loss of employment: the element the £30,000 exemption is designed for.

How does the £30,000 exemption work?

Under section 401 of the Income Tax (Earnings and Pensions) Act 2003, the first £30,000 of a genuine termination payment is free of both income tax and National Insurance. The word doing the work is “genuine”: the exemption applies to compensation for the loss of the job, not to money the employee had already earned.

Anything above £30,000 in the compensation element is taxed as employment income. Employer National Insurance may also be due on the excess, which is one of the reasons employers care about how the package is structured.

Why can’t notice pay be made tax free?

Because the rules were changed specifically to stop that. Historically, some agreements labelled notice pay as compensation to slide it under the £30,000. The post-employment notice pay rules now require the notice element to be calculated and taxed as earnings regardless of what the agreement calls it. Relabelling achieves nothing except a later argument with HMRC.

The label on a payment does not decide its tax. What the payment is for does.

On what a final payslip should contain more generally, see our explainer on final pay when leaving a job.

Why is independent legal advice compulsory?

Under section 203 of the Employment Rights Act 1996, a settlement agreement is only binding if the employee has received independent legal advice from a qualified, insured adviser, who must be named in the agreement. Without it, the waiver of statutory claims does not hold, which protects the employee and gives the employer the certainty it is paying for.

In practice the employer contributes to the cost, commonly a few hundred pounds, and that contribution is usually enough to cover a straightforward review. The adviser will explain the terms and, just as importantly, give a view on whether the amount offered is reasonable given the claims being waived.

How do you tell whether an offer is fair?

There is no formula, but there is a method. Start from what the employee would receive anyway: notice, accrued holiday, any statutory redundancy entitlement. That is the floor, and it is not compensation at all. Then look at the value of the claims being given up, which depends on the strength of the case, the likely losses and how long a new role would realistically take to find.

A probation period feels like a legal status, but in the UK it is mostly a contractual convention. There is no statutory maximum, no automatic loss of rights, and no special dismissal regime once basic protections apply. Here is what a probation period actually is, how long it usually runs, which rights apply from the first day, and what the Employment Rights Act changes.

What is a probation period, legally?

A probation period (also written probationary period) is a stretch at the start of a job during which the employer assesses whether the new hire is right for the role, and the employee assesses the same thing in reverse. It is created entirely by the employment contract. There is no separate legal category of “employee on probation” in UK law, which is why so much of the folklore around it is wrong.

What the contract typically sets out is the length of the period, a shorter notice period on both sides, sometimes a reduced benefits package, and the process for confirming or ending employment at the end. Everything else is ordinary employment law.

How long can a probation period last?

There is no statutory limit. In practice the market has settled on a narrow range.

• Three months for junior and operational roles, where competence shows quickly.
• Six months for professional, technical and specialist roles, the most common length overall.
• Nine to twelve months for senior and executive roles, where the impact of the hire takes longer to read.

Longer is not automatically safer for the employer. A probation period that stretches past six months increasingly overlaps with the service thresholds that trigger stronger statutory protection, so it buys less than employers assume.

Which rights apply during probation?

This is where most misunderstandings sit. Being on probation does not put someone outside employment law. From the first day of employment, an employee is entitled to:

For the detail on two of these, see our explainers on holiday entitlement and statutory sick pay.

Can a probation period be extended?

Yes, but only if the contract provides for it. An extension imposed without a contractual right is a unilateral change to terms, which is a problem in itself. Where the right exists, good practice is straightforward: raise the concerns before the end of the original period, confirm the extension in writing with a clear new end date, state exactly what needs to improve and how it will be measured, and schedule review points rather than waiting for the new deadline.

How does dismissal during probation work?

Ending employment during probation is generally simpler for the employer, because the qualifying service for ordinary unfair dismissal claims has historically not been met. Simpler, however, is not the same as risk-free. Three things still apply: the correct notice must be given, at least the statutory minimum of one week once the employee has been employed for a month; the reason must not be discriminatory or otherwise automatically unfair; and any contractual procedure must be followed.

Acas guidance is clear that a fair, documented process during probation is worth the effort even when it is not strictly required, because it is the record that defends the decision later. If the exit involves a negotiated payment, see our explainer on settlement agreements, and on the final payslip itself, our guide to final pay when leaving a job.

Probation does not lower the standard of evidence an employer needs. It only shortens the notice period.

What changes with the Employment Rights Act?

The reform of unfair dismissal rights is the point to watch. An earlier proposal to give probation periods statutory status with a nine-month cap was dropped from the final legislation. What remains is a shift in the qualifying period: from 1 January 2027, protection from unfair dismissal becomes a right after six months of service rather than the longer period employers have relied on.

The practical consequence is that a six-month probation period will no longer sit comfortably inside the unprotected window. Employers who use probation as an informal safety net should expect to document performance management more rigorously, and to run their reviews earlier. Since the timetable and the detail can still move, check GOV.UK and Acas for the version in force when you need it.

Rewarding long service is common, and getting it wrong on the payroll is just as common. HMRC exempts certain long service awards from income tax and National Insurance, but only under three strict conditions, and cash never qualifies. Here is exactly how the exemption works, how to calculate the tax-free ceiling, and what to do when an award goes over it.

What counts as a long service award?

A long service award is a benefit given to an employee to mark a milestone of continuous service with the same employer. Typical forms are a physical gift, a voucher, an experience, or an extra day of leave. What matters for tax is not the occasion but the form and value of the award, and the employee’s length of service at the time it is given.

What are the three conditions for the exemption?

All three must be satisfied. Miss one and the whole award becomes taxable.

How do you calculate the tax-free limit?

Multiply the years of service by £50. That gives the maximum value that can be given free of income tax and National Insurance.

Indicative figures based on the GOV.UK long service award guidance, checked July 2026.

Why is cash treated differently?

Because HMRC treats a cash award as earnings, full stop. A £500 bonus for 25 years of service is pay: it goes through PAYE, attracts income tax and National Insurance, and appears on the payslip like any other payment. The intention behind it makes no difference, and neither does the length of service.

The same logic catches anything that behaves like cash. Vouchers that can be exchanged for cash are treated as cash. Vouchers that can only be exchanged for goods or services fall on the non-cash side, and can sit inside the exemption. If in doubt, the test is whether the employee can convert the award into money.

The exemption rewards the gesture, not the payment. The moment an award can be turned into cash, it becomes pay.

What happens if the award is worth more than the limit?

Only the excess is taxed, not the whole award, provided the other two conditions are met. A £1,400 gift for 25 years of service exceeds the £1,250 ceiling by £150, and that £150 is treated as employment income, subject to income tax and employee National Insurance, reported through the usual expenses and benefits route.

If the 20-year or 10-year conditions are not met, there is no exemption to apply and the full value is taxable. Payroll teams that handle these awards manually tend to get this backwards, which is one more reason to run them through the same system as the rest of pay. Our explainer on gross versus net salary covers how taxable benefits land on the payslip.

How do you design a scheme that actually works?

Three practical points. First, decide whether the scheme exists for tax efficiency or for recognition, because the 20-year threshold means most milestones will be taxable either way, and that is not a reason to skip them. Second, keep a record of every award with its date and value, since the 10-year rule cannot be applied without one. Third, be transparent with employees about whether an award is taxable, so nobody is surprised by a smaller payslip the following month.

On the retention question behind all this, our guide to employee retention strategies looks at what actually keeps people, and a long service gift at year twenty is rarely the deciding factor.

Ask five people “what is payroll?” and you will get five answers: the money, the payslip, the software, the department, the monthly headache. They are all a bit right. Payroll is the end-to-end process an employer runs to pay staff correctly and on time, work out the tax and other deductions, and report it all to the government. Get it wrong and you face unhappy employees and penalties. This plain-English guide walks through what payroll covers, the step-by-step process and the UK 2026/27 figures, for information only and not as tax advice.

What does payroll actually mean?

At its simplest, payroll is the system for paying the people who work for you. But the word covers three overlapping ideas, and it helps to keep them apart.

Payroll sits at the meeting point of HR and finance. HR owns who is employed, on what terms and with which benefits. Finance owns paying accurately and reporting to HMRC. When those two are out of sync, that is where payroll errors creep in.

What are the steps in the payroll process?

Every pay run, whether weekly or monthly, follows the same sequence. Understanding it demystifies the payslip and the software behind it.

Which deductions come out of pay?

Deductions are what turn gross pay into take-home pay. In the UK they split into statutory (required by law) and voluntary (chosen by the employee). The main ones for 2026/27 are:

Note that employers pay their own costs on top, chiefly employer National Insurance (15 % above the secondary threshold since April 2025) and their share of the pension. These do not reduce the employee’s net pay, but they matter a lot for the cost of hiring.

How does gross pay become net pay?

The headline number on a job offer is nearly always gross pay, the full amount before anything is taken off. Net pay is what actually lands in the bank. The gap between the two is the sum of all the deductions above.

Take a simple example for illustration: an employee on £30,000 a year. Roughly the first £12,570 is tax free, the rest is taxed at 20 %, National Insurance applies at 8 % on earnings above the threshold, and a pension contribution comes off too. The exact net depends on the tax code, pension scheme and whether it is a salary sacrifice arrangement, which is why a payslip shows every line rather than a single figure.

How is payroll reported to HMRC?

UK employers must tell HMRC about payments and deductions in real time, a system known as RTI (Real Time Information). In practice that means submitting a Full Payment Submission (FPS) on or before each payday, listing what every employee was paid and what was deducted. An Employer Payment Summary (EPS) covers adjustments such as statutory pay recovered.

Getting RTI right and on time is not optional: late or inaccurate submissions can trigger penalties. It is also why most employers, even small ones, use payroll software rather than spreadsheets.

Payroll is one of the few business processes where “roughly right” is not good enough. Staff notice a wrong payslip immediately, and HMRC notices a wrong submission not long after.The Miister Software team, payroll notes.

Should you run payroll in-house or with software?

Very small employers can run payroll manually using HMRC’s Basic PAYE Tools, but it is slow and error-prone. Most move to dedicated payroll or HR software as soon as they have more than a handful of staff. Good software:

• Applies the current tax bands, NI rates and thresholds automatically each April.
• Handles auto-enrolment pensions, statutory sick pay and parental pay.
• Files RTI submissions to HMRC and produces compliant payslips.
• Keeps an audit trail for every pay run and every employee.