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Discrimination payment connected to termination of employment is taxable
In Moorthy v HMRC, the First-Tier Tribunal has held that a payment in compensation for discrimination and injury to feelings made on termination of employment is taxable in circumstances where the discrimination is connected to the termination i.e. that the termination of employment is of itself discriminatory. Section 401 of the Income Tax (Earnings and Pensions) Act 2003 provides that payments made directly or indirectly in consideration, or in consequence, of or otherwise connected to the termination of employment may be paid tax free up to £30,000. If part or all of the payment is an award for injury to feelings for discrimination, and the discrimination is connected to the termination of the employment, then this sum will also be taxable under section 401. However if the discrimination has occurred before the termination of the employment, HMRC accepts that it will be wholly exempt from tax.
The facts in this case were these. The employee was dismissed for redundancy and received a statutory redundancy payment of £10,640. He issued proceedings for unfair dismissal and age discrimination and thereafter entered into mediation with his former employer, as a result of which a compromise agreement was signed, under which the employee was paid an ex gratia sum of £200,000 for compensation for loss of office and employment.
The employee believed that the payment was not taxable and, following correspondence, HMRC opened a formal enquiry; as a result of which it concluded that the payment was taxable under section 401 with the exception of £30,000 in accordance with the statutory threshold – and a further £30,000 should be tax free which it stated to be “by concession”. This would appear to have acknowledged the tax payer’s claim of alleged discrimination being the reason why he believed the full payment was not taxable. The HMRC assessment was upheld by a formal review and the employee appealed to the First-Tier Tribunal.
The appeal was dismissed and the First-Tier Tribunal found that the full payment of £200,000 was taxable under section 401, but the £30,000 exemption would be reduced under section 403 by the statutory redundancy payment made in 2010. Furthermore it held that HMRC had no jurisdiction to allow a concession of a further £30,000 as being tax free.
The Tribunal decision was that the full amount was taxable, including the element attributed to discrimination and injury to feelings, on the basis that it found that the discrimination was connected to the termination. It acknowledged that discrimination which was not directly or indirectly connected to termination would indeed not normally be taxable; but this had not been the situation in this case.
With regard to the additional tax free amount of £30,000, the Tribunal considered the Taxes Management Act 1970, section 50 (7) which empowers the Tribunal to increase the amount of an assessment where a tax payer has been under-charged. It held that, as there was no statutory basis for tax relief on the additional £30,000 which HRMC had proposed to grant the tax payer, the employee’s liability to tax had increased accordingly (bet he wished he had not taken this to appeal!). The Tribunal acknowledged that it had jurisdiction over “concessions” – but as there was nothing which permitted a payment that was taxable under section 401 to be treated any differently, the Tribunal concluded it had no jurisdiction to allow the relief which HMRC proposed to grant.
This legal update is provided for general information purposes only and should not be applied to specific circumstances without prior consultation with us.
For further details on any of the issues covered in this update please contact Gemma Ospedale, Partner in Employment on 020 7583 2222.
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