Upper Tribunal holds damages for injury for feelings are taxable

29 January 2016

Is a payment in respect of injury to feelings made on the termination of employment subject to tax?

Yes, held the Tax and Chancery Chamber of the Upper Tribunal in Moorthy v The Commissioners for Her Majesty's Revenue and Customs.

The Claimant was made redundant. He then brought claims of unfair dismissal and age discrimination, which related entirely to his dismissal. By a settlement, the Claimant was paid an ex gratia sum of £200,000 by his employer, who treated £30,000 as tax exempt under s401 of ITEPA 2003 and deducted tax at basic rate from the remainder.

In his tax return, the Claimant treated the balance as tax free. HMRC disagreed and issued a closure notice treating an extra £140,023 as taxable income but they did make a concession to treat a further £30,000 as damages for injury to feelings arising from age discrimination, and so not taxable.

The Claimant appealed. The First Tier Tribunal held that the balance was taxable. The Claimant appealed again.

The Upper Tribunal upheld the decision. Section 406(b) of ITEPA treats a payment "on account of injury to an employee" as not taxable, but that must be a medical condition. 'Injury' is akin to death or disability. It does not include injury to feelings. It applies to payments in connection with the termination of employment, or a change of duties or earnings. The Upper Tribunal noted that there appeared to be an anomalous distinction that compensation for discrimination during employment is not taxable, so that compensation may have to be apportioned between events before and after termination for tax purposes.

With thanks to Daniel Barnett’s employment law bulletin for providing a summary of this case.