The First-tier Tribunal’s (Tax) decision in A v HMRC [2015] UKFTT 189 (TC) needs to be taken into account by in-house legal teams and employers when formulating the terms of a compromise agreement, and in particular where employers choose to draw up agreements without taking legal advice. 

S.62 of the Income Tax (Earnings and Pensions) Act 2003 (ITEPA 2003) states that ‘earnings’ are subject to income tax, i.e. any salary, money-related gratuity or anything else that constitutes an emolument (payment) of the employment. A was being made redundant. He received a statutory redundancy payment and an ex-gratia redundancy payment. He was also offered an additional £600,000 if he signed a compromise agreement in full and final settlement of any further claims, and specifically a race discrimination claim raised long before the redundancy, where he alleged he was paid lower bonuses because of his race. The bank told HRMC that the £600,000 was offered because A’s claims had some merit and although no liability was being admitted, there was a risk that litigation could lead to the higher bonus payments being awarded. HMRC decided the £600,000 was intended to make up for any shortfall in salary/bonus and was taxable under S.62 ITEPA 2003.

The Tribunal upheld A’s appeal. This was not a case of a termination due to discrimination where the settlement payment is calculated taking into account loss of earnings and therefore taxable under S.401 ITEPA 2003. In this case, the discrimination claim existed well-before A was made redundant and he had received separate redundancy payments. The £600,000 was to settle the race claim and not to pay back money which A was entitled to under his contract. As such it was not an emolument of employment and taxable under S.62 ITEA 2003, irrespective of whether it was calculated by reference to A’s earnings. Furthermore, there was no need to assess if the race claim would have succeeded, as the evidence clearly showed the payment was made in settlement.

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