Is a Non-Compete or Non-Solicitation Payment Taxable? BIR Rules for Restrictive Covenants

A payment for agreeing not to compete, or not to solicit a former employer’s clients and staff, is taxable income to whoever receives it — there is no NIRC provision that carves out “non-compete payments” as exempt. NIRC Section 32(A)’s broad gross-income definition catches it regardless of label. The real question is which withholding system applies: compensation withholding for a departing employee, or expanded withholding tax for a business seller or contractor.

Is a non-compete or non-solicitation payment taxable at all? #

Yes — a non-compete or non-solicitation payment is taxable income because it fits squarely within the NIRC’s broad definition of gross income, not because any BIR regulation names “non-compete payments” specifically as a separate, standalone taxable category of their own. Philippine tax law has no dedicated section for “restrictive covenant payments,” “garden leave,” or similar labels. Instead, NIRC Section 32(A) sweeps in income from whatever source, the same catch-all basis the BIR and tax practitioners already use to tax other unlabeled or informally named payments, from referral bonuses to crowdfunding proceeds, regardless of what the settlement agreement or employment contract calls the amount received.

“Except when otherwise provided in this Title, gross income means all income derived from whatever source, including (but not limited to) the following items: (1) Compensation for services in whatever form paid, including, but not limited to fees, salaries, wages, commissions, and similar items…”

— Section 32(A) of the National Internal Revenue Code (NIRC), as amended

A non-compete payment satisfies this definition two different ways depending on context: to a departing employee, it is compensation connected to the employment relationship; to a business seller or a contractor, it is income from forbearing to compete — functionally a payment for a service — rather than proceeds from selling the underlying business or property itself. Either way, it clears the Section 32(A) threshold for taxability. The only open question is the withholding mechanism, covered next.

Does a non-compete payment to a departing employee qualify for the separation pay exemption? #

Generally no — a non-compete payment is a separate, voluntarily negotiated amount, not separation pay compelled by a cause beyond the employee’s control, so it falls outside the NIRC Section 32(B)(6)(b) exemption even when it’s paid alongside a severance package. As Is Separation Pay Taxable in the Philippines? BIR Rules Under NIRC Sec. 32(B)(6)(b) explains, that exemption applies only when separation itself is due to death, sickness or physical disability, or a cause beyond the employee’s control, such as retrenchment, redundancy, or closure of business.

A non-compete payment doesn’t change that analysis for the severance pay itself, but it also doesn’t inherit the exemption by association. The payment exists because the employee agreed to a restrictive covenant — a separate bargain layered on top of the separation, not a consequence of the separation’s cause. Two features mark this distinction clearly:

• It’s consideration for a promise, not compensation for job loss. The employee receives it in exchange for agreeing to refrain from certain post-employment conduct, which is a distinct obligation from the employment relationship ending.
• It typically survives regardless of why the employee left. A non-compete clause (and its payment) can attach to a voluntary resignation, a retirement, or an involuntary termination alike — unlike the Section 32(B)(6)(b) exemption, which depends entirely on the specific cause of separation.

Because the underlying separation in most non-compete scenarios is voluntary (a resignation, a negotiated exit, or a retirement) rather than retrenchment, redundancy, or closure, the non-compete payment is ordinary taxable compensation, added to the employee’s pay for withholding tax purposes — even in the less common case where the severance pay running alongside it independently qualifies for the exemption on its own facts.

Who withholds on a non-compete payment to a business seller or contractor? #

Withholding on a non-compete payment outside the employment context tracks the same classification question covered in Employee or Independent Contractor? Why BIR Withholding Tax Treatment Depends on the Answer: a corporate or business payor withholds, and the applicable system depends on who is being paid and in what capacity. Three common scenarios recur in practice, each with a different payee and a different withholding mechanism:

In every scenario, the payor’s status decides whether any withholding happens at all — the same threshold rule covered under RR No. 2-98, Section 2.57.3, where a juridical person withholds regardless of its own trade-or-business status, while an individual withholds only on payments connected to a trade or business. A private individual settling a personal, non-business dispute with a one-time non-compete payment to another individual generally isn’t a withholding agent in the first place, even though the payment is still taxable income to the recipient who must report it.

Worked example: a departing sales VP’s severance and non-compete payment #

A clean fact pattern keeps the two payment streams from blurring together: one portion of the exit package is involuntary separation pay tied to a documented retrenchment, and a separate, clearly labeled portion is consideration paid specifically for a post-employment non-compete clause the departing executive agrees to sign.

A logistics company terminates its VP of Sales as part of a documented department-wide retrenchment to prevent mounting losses, reported to DOLE and supported by audited financial statements. The exit package has two components, paid and labeled separately in the settlement agreement:

The ₱2,000,000 separation pay is exempt because the retrenchment itself is a cause beyond the VP’s control, independently documented and supported — the same test covered in the separation pay article linked above. The ₱500,000 non-compete payment doesn’t get to ride along on that exemption: it isn’t paid because of the retrenchment, it’s paid in exchange for a forward-looking promise the VP makes separately, so it stays squarely within NIRC Section 32(A)’s general compensation definition. The company withholds tax on the ₱500,000 at the time it’s paid, using the regular compensation withholding table, and includes it in the VP’s year-end BIR Form 2316 as taxable compensation, while the ₱2,000,000 appears on the same form only as a non-taxable item.

Why the label on the payment doesn’t change the outcome #

Calling a payment a “non-compete fee,” a “garden leave allowance,” or a “restrictive covenant payment” has no effect on whether it’s taxed — the BIR and the underlying statute look at what the payment is actually for, not what the settlement agreement calls it. This is the same substance-over-label principle that governs misclassified bonuses, ex gratia payments, and consultancy fees elsewhere in Philippine withholding practice: a payment made because of an employment relationship, a business sale, or a services engagement is taxed according to that relationship, and relabeling it doesn’t move it into a different, more favorable category.

For a payor, this means the drafting exercise that actually matters isn’t choosing a tax-friendly name for the payment — it’s correctly identifying the recipient’s status (employee, business seller, or contractor) and applying the withholding mechanism that status requires. Mislabeling a payment doesn’t reduce the tax due; it mainly risks the payor withholding under the wrong system entirely, which carries its own exposure under NIRC Section 251 for an under-withheld amount.

Frequently asked questions #

Is a payment for signing a non-compete agreement taxable in the Philippines? #

Yes. There is no NIRC provision that exempts a non-compete or non-solicitation payment. Under NIRC Section 32(A), gross income includes all income derived from whatever source, so a payment made in exchange for agreeing not to compete or not to solicit is taxable to the recipient regardless of how the contract labels it.

Does a non-compete payment to a resigning employee qualify for the separation pay tax exemption? #

Generally no. The NIRC Section 32(B)(6)(b) exemption applies only to amounts paid as a consequence of separation due to death, sickness, or a cause beyond the employee’s control, such as retrenchment or closure. A non-compete payment tied to a voluntary resignation or a negotiated exit isn’t compelled by one of those causes, so it’s taxable compensation even if it’s paid alongside otherwise-exempt separation pay.

Who withholds tax on a non-compete payment made to a seller in a business sale? #

It depends on whether the buyer is a withholding agent paying in the course of trade or business. A corporate buyer paying an individual or business seller a separate amount for a non-compete covenant generally withholds expanded withholding tax under RR No. 2-98, treating the payment as compensation for a service (forbearance to compete) rather than as proceeds from the sale of a capital asset.

Is a non-compete clause in a consultancy agreement treated differently from one in an employment contract? #

The underlying income is still taxable either way, but the withholding mechanism differs. A non-compete payment to an employee is compensation withheld through the payroll system and reported on BIR Form 2316. A non-compete payment to an independent contractor or consultant is subject to expanded withholding tax and certified on BIR Form 2307, following the same classification rules that apply to the rest of that contractor’s fees.

Can a company avoid withholding tax by labeling a payment a “non-compete fee” instead of a bonus or separation pay? #

No. BIR withholding rules look at the substance of a payment, not its label. A “non-compete fee,” a “retention bonus,” and an “ex gratia payment” all fall under the same broad gross-income definition in NIRC Section 32(A) if they’re actually paid because of services rendered, employment, or a business relationship. Relabeling a payment doesn’t change whether tax is due on it or which withholding system applies.

Summary #

A non-compete or non-solicitation payment is taxable under the NIRC’s general gross-income definition in Section 32(A) — there’s no special exemption for it, and no clever label changes that. What varies is the withholding mechanism: compensation withholding and BIR Form 2316 for a payment to a departing employee (which generally does not share in the narrower Section 32(B)(6)(b) separation pay exemption unless the separation itself was involuntary), and expanded withholding tax certified on BIR Form 2307 for a payment to a business seller or independent contractor, so long as the payor is a withholding agent paying in the course of trade or business. Keep the non-compete payment clearly itemized and separately documented from any genuinely exempt severance amount, so each portion gets the tax treatment it actually qualifies for.