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Moving goalposts of exemption

Last week, I looked at the important conditions that must be satisfied in securing exemption from tax on redundancy payments. Having finished that analysis, it occurred to me that I really should have preceded it with a consideration of whether a payment was, by its nature, one that could qualify for the special exemptions in respect of redundancy payments as opposed to being one assessable under the general rules of Schedule E. In the latter case, there is no chance that any exemption can apply, so it is a pretty important thing to establish.

While there are a number of relatively complex technical issues to consider in determining the tax treatment of any payment on termination of employment, as there has been a substantial amount of case law and concessions issued on the subject, the fundamental issue is determining whether the payment should be assessable under section 19 ICTA 1988 or under the special provisions of section 148 ICTA 1988.

The main case determining chargeability under the general Schedule E rules is that of Hochstrasser •Mayes 38 TC 673.

In this case, it was determined that it is insufficient for the Inland Revenue to show that the payment would not have been made but for the employee&#39s employment.

The key test is to demonstrate that the payment was derived from the employment and that the terms of the employment required the payment to be made in consideration for the provision of services, either future or past.

This appears to mean that, if it can be shown that a payment made on the termination of an employee&#39s employment is not made in consideration of the provision of services by the employee, no tax charge should arise under section 19 and section 148 ICTA 1988 should apply. It is only when section 148 applies that the particular reliefs available for redundancy payments can be accessed.

There have been a number of further cases on the matter of whether a payment is taxable under the general provisions of Schedule E or as a separate termination payment. It is worth bearing in mind that when a number of these cases were decided, there was no alternative to taxation under general Schedule E provisions.

Until 1961, it was possible to avoid tax altogether if the payment did not fall within the general provisions of Schedule E.

The case of Hunter •Dewhurst 16 TC 605 is authority for the proposition that a payment made genuinely as compensation or consideration for the employee (in this case, a director) foregoing claims that he would otherwise have had – in this case, under the articles of association – is not taxable under the general provisions of Schedule E.

In the case of Shilton •Wilmshurst 64 TC 78, footballer Peter Shilton was asked by Nottingham Forest to transfer to Southampton and received a payment of £75,000 for agreeing to this.

The House of Lords categorised the payment as being made in return for the taxpayer&#39s agreement to act as or become an employee of his new employer, so that it was genuinely taxable as general employment income.

Another significant case was heard in 1993. In Mairs •Haughey STC 569, the employee received a payment to compensate him for the loss of contractual redundancy rights even though employment was continuing.

The House of Lords held that to determine whether a payment was an emolument from employment, it was necessary to identify the nature of the payment in question. A payment made to compensate for the loss of a contingent right to a payment derived its character from the nature of the payment it replaced.

Next week, I will look further at the implications of this case and the Inland Revenue Statement of Practice that was issued shortly afterwards.

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