Termination Trio - Case Round-Up: January 2015

In this month's round-up, Mark Shulman consultant solicitor with Keystone Law, looks at recent cases on deductions, tax and holiday pay in relation to termination.

Mark Shulman, Consultant Solicitor at Keystone Law

NMW

There are very few reported cases relating to the repayment of training costs. Sometimes employees argue that such clauses are not enforceable because they constitute a penalty. An obligation to repay training costs may also have the effect of discouraging an employee to leave their employment and so amount to an indirect restraint of trade (see for example Electronic Data Systems Ltd v Hubble [1987] IDS Brief 363). Each case will of course turn on its own facts and the circumstances of the termination of employment, together with consideration of the amounts repayable by the employee.

But is an employer entitled to make a deduction from the Claimant's final salary to cover the cost of a training course, which effectively meant that she was being paid less than the National Minimum Wage? Yes said the EAT in [Commissioners for Revenue & Customs v Lorne Stewart Plc ]()UKEAT/0250/14/LA.

Background

Employees were allowed to attend courses that were paid for by the employer provided the employees signed an agreement to repay some or all of the cost if they left within 2 years. The agreement contained a reimbursement schedule which provided for a sliding scale of costs to be reimbursed. The agreement also provided for any repayment to be deducted from their final salary payment.

Having undertaken training subject to an agreement, the Claimant left within 2 years and the employer made a deduction from her final salary. This meant that for her final pay reference period, she was paid less than the required national minimum wage ("NMW").

Regulation 33 - NMW Regulations

HMRC issued a Notice of Underpayment, which the employer appealed. The issue was whether the money deducted came within regulation 33(a) of the National Minimum Wage Regulations 1999 and in particular whether the liability to repay was "in respect of conduct of the worker, or any other event, in respect of which he is contractually liable". An ET found that regulation 33(a) applied and therefore allowed the employer's appeal against HMRC's Notice of Underpayment. HMRC appealed to the EAT.

HMRC argued that the provision should be construed narrowly in order to prevent abuse as an exception to the NMW legislation and so "conduct" meant "misconduct" and that "any other event" must be akin to misconduct. Examples would be cases of bad workmanship, negligence and damage to property under a worker's control. The EAT agreed that "conduct", as used in the NMW Regulations, was very likely to amount to misconduct because otherwise that conduct would be unlikely to give rise to a contractual liability on the part of the worker.

What is "any other event"?

However, when it came to construing "any other event", the EAT did not accept that the event must be akin to misconduct. The EAT's view was that the proper way to interpret regulation 33(a) was that "any other event" should be interpreted as having some relationship to conduct for which the worker is responsible, but not necessarily to something which amounted to misconduct. A voluntary resignation or damage to property for which the worker was responsible would come within the concept of "any other event", but not a dismissal forced on a worker for redundancy or a request of a referral to Occupational Health (which would have been brought on by ill-health for which the worker could not be said to be responsible).

Therefore, as the Claimant had resigned voluntarily, her employers were entitled to deduct the money due back to them in respect of the course without infringing the NMW legislation.

TAX - TERMINATION PAYMENTS

Was a payment of £200,000 under the terms of a compromise agreement taxable in full? Yes, said the First- Tier Tribunal Tax Chamber in [Moorthy v The Commissioners for Her Majesty's Revenue & Customs]() [2014] UKFTT 834 (TC), subject to a £30,000 tax free sum. This case is well worth reading for a useful summary of the tax regime applicable to payments under the Income Tax (Earnings and Pensions Act) 2003 ("ITEPA") Part 6, Chapter 3, "Payments and benefits on termination of employment etc."

Background

The Claimant, Mr Moorthy, was made redundant in March 2010 and shortly afterwards (before the end of the 2009-10 tax year) he received statutory redundancy pay of £10,640, from which no tax was deducted. Following his dismissal, Mr Moorthy commenced proceedings in the ET, alleging unfair dismissal and age discrimination.

In January 2011 the parties engaged in mediation. The mediation resulted in a Compromise Agreement under which the former employer agreed to pay Mr Moorthy "an ex gratia sum of £200,000 by way of compensation for loss of office and employment." The payment was without admission of liability and was in full and final settlement of his claims as made to the employment tribunal together with "any other claims" which the parties might have against each other "arising out of or connected with the employment or its termination." There was no allocation of the sum as between different heads of claim or otherwise.

The entire sum was in fact paid in the 2010-11 tax year. The Agreement stated that "the first £30,000…will be paid to Mr Moorthy without deduction of income tax". The sum of £34,000 was deducted in respect of the remaining balance and Mr Moorthy applied for a tax refund of that amount. He claimed that the £200,000 was not taxable because it had been paid to settle a discrimination claim, to compensate him for not being selected for a post and/or to protect the Respondent's reputation.

HMRC's view in correspondence was that:

"All of the discrimination complained of is alleged to have taken place during the redundancy process. So any part of the compensation which can be attributed to injury to feelings falls to be taxed under Section 401 as received in connection with the termination of the employment."

HMRC contended that the £200,000 was taxable as a termination payment under ITEPA s 401, other than (a) in respect of £30,000 which was specifically exempted under ITEPA s 403 and (b) by concession, a further £30,000 as representing compensation for injury to feelings (although their formal position was that there was no evidence of discrimination). The Claimant appealed against the HMRC's notice of assessment.

On appeal, the Claimant submitted that the entire payment was not taxable. Although the Compromise Agreement had not allocated the £200,000 against heads of claim, the employer had already paid out £10,640 on account of redundancy. It was contended therefore that the primary reasons why the payment was made were (a) because Mr Moorthy had claimed age discrimination and (b) to protect the employer's reputation.

The question for the tribunal was whether the £200,000 compensation payment made to Mr Moorthy fell within ITEPA s 401 which applies (amongst other cases) to:

"…payments and other benefits which are received directly or indirectly in consideration or in consequence of, or otherwise in connection with—

(a) the termination of a person's employment…"

The only relevant exemption from that charging provision was the £30,000 exemption under ITEPA s 403.

The scope of ITEPA s401

Mr Moorthy had confirmed to the Tribunal that he had not suffered any discrimination, whether by age or otherwise, before February 2009, when he was advised he was at risk of redundancy. That meeting was the beginning of a process which led to the termination of his employment. Until then he had been treated as a valued employee. There had been no injury to feelings before the February meeting and so nothing to occasion part or all of the compensation payment.

The Tribunal had no hesitation in finding that the payment of £200,000 in its entirety was made "directly or indirectly in consideration or in consequence of, or otherwise in connection with" the termination of Mr Moorthy's employment, and therefore fell within ITEPA s 401. Whether or not the payment was also to compensate Mr Moorthy for discrimination, unfair dismissal, injury to feelings, redundancy and/or financial loss was immaterial. It was likewise irrelevant whether or not his employer made the payment partly or entirely to protect its reputation. The payment could be for any or all of these things, but because it was in the present case "directly or indirectly in consideration or in consequence of, or otherwise in connection with" the termination of Mr Moorthy's employment, it fell within ITEPA s 401. If it had been Parliament's' intention to exclude compensation for the breach of an employee's rights or payments to protect the employer's reputation, it would have been a straightforward matter to add further provisions to the long list of exemptions already included within ITEPA Part 6, Chapter 3.

Whilst a compensation payment made to an employee for discrimination, injury to feelings or to protect the employer's reputation which is not "directly or indirectly in consideration or in consequence of, or otherwise in connection with" a termination, would not normally be taxable, that was not Mr Moorthy's situation.

What tax was payable?

Having determined that the £200,000 was liable to be taxed, it was then necessary to consider the amount of tax payable.

On that quantum issue the Tribunal concluded:

* the effect of ITEPA s 309(3) was that a statutory redundancy payment counted towards the £30,000 limit; * ITEPA ss 403 and 404 provide that termination payments from the same employer must be aggregated, whether they occur in a single tax year or in more than one tax year; * Mr Moorthy had "used up" (from his redundancy payment) part of his £30,000 exemption in the previous tax year. In 2010-11 only the balance of £19,360 remained to be used against the £200,000 payment.

Therefore, the employer had to deduct basic rate tax from Mr Moorthy's £200,000 payment, other than that which was exempt under ITEPA s 403. Mr Moorthy "used up" part of his £30,000 exemption in the previous tax year. In 2010-11 only the balance of £19,360 remained to be used against the £200,000 payment. However, instead of only exempting £19,360 (i.e. the balance of the tax free £30,000 after deduction of the £10,640 redundancy payment), the employer treated the full £30,000 as tax free.

HMRC concession

Following an HMRC inquiry, it was stated that although HMRC believed that the whole termination payment falls under s 401 ITEPA and taxable only subject to the £30,000 threshold, their revised assessment used a figure of £140,023 on the basis that a further £30,000 would be allowed by concession, reflecting the maximum that could have been made under the Vento bands for the alleged age discrimination.

However, the Tribunal's view was that the whole payment fell under ITEPA s 401, subject only to the exemption in s 403. The further concessionary deduction of £30,000 had no statutory basis and the Tribunal had no authority to allow a tax relief given by HMRC. Accordingly, it found that Mr Moorthy had been undercharged by the omission of this £30,000 from his tax return and that his tax should be increased accordingly.

The Tribunal's view was that a "concession" meant "rules published by HMRC without any specific legislative authority to do so, but in reliance on HMRC's general care and management powers as a public body." There was no general or public "concession" which allowed a taxpayer in receipt of a termination payment to treat £30,000 as attributable to non-taxable "injury to feelings" or "discrimination" in a situation where the payment for injury to feelings and/or discrimination was "received directly or indirectly in consideration or in consequence of, or otherwise in connection with in connection with" the termination. The Tribunal therefore had no jurisdiction to take this "concession" into account when deciding Mr Moorthy's appeal.

It went on to state that even if it proved to be wrong on this jurisdiction point and there was power to make a concession, the granting of the further £30,000 was, in any event, an unlawful concession. As Lord Hoffman had said in Wilkinson v HMRC [2006] STC 270 at [21], the powers cannot be construed "so widely as to enable the commissioners to concede, by extra- statutory concession, an allowance which Parliament could have granted but did not grant." It would have been possible for Parliament to have granted a further exemption, so as to cover all discrimination payments connected to the termination, or (for example) payments up to the level of the Vento guidelines, but unless that happened, HMRC acted beyond its powers if it granted that relief.

The decision was therefore that the taxable income in Mr Moorthy's amended tax return was further increased to include both the £30,000 which related to the "concession" and the £10,640 which was previously treated as part of the £30,000 exemption but which had already been given in the previous year.

Comment

As mentioned above, this case provides a very useful summary of the relevant legislation in connection with termination payments. Some points to consider when advising clients are:

* Should there be an allocation of sums as between different heads of claim or otherwise? * Should any specific sum be expressed as an amount net of tax? * Whether any payment(s) (for whatever reason) should be made in different tax years? * Might any of the various exceptions to a taxable charge potentially apply under ITEPA?

As ever, specialist tax advice should be obtained as appropriate on particular circumstances.

HOLIDAY PAY

In [Sash Window Workshop Ltd & Anor v King ]()UKEAT/0057/14/MC; UKEAT/0058/14/MC, the EAT decided that an ET had been wrong to hold that the Claimant was entitled to payment for holiday pay in respect of holiday to which he was entitled under the WTR, but did not actually take.

Background

The Claimant worked for the Respondent for 14 years on a commission only pay structure until the termination of his engagement when he reached the age of 65. He was not paid for holidays or for absence when he was sick. The Claimant claimed 24.15 weeks' pay in respect of leave that was not actually taken between 1999 and 2012.

The ET's decision was that:

"Reliance is placed on Canada Life Ltd v Gray [2004] ICR 673 which suggests that a worker may be able to claim unpaid holiday as a series of deductions even if leave has not been requested or taken although in that case it was suggested that the position may depend on whether the workers employment had terminated when the claim was made. The position was resolved by the Court of Appeal in NHS Leeds v Larner [2012] IRLR 825 which confirms that a worker who has not had the opportunity to take annual leave because he has been on sick leave may carry over unused leave from one year to the next and on termination claim holiday pay due in respect of previous leave years.

We note the reference to sick leave, which is not the position here, but see no difference in principle between being unable to take paid leave through sickness and being refused paid leave as would have been the position in this case had the Claimant asked for it…" (emphasis added).

On that basis the ET was satisfied therefore that there was an entitlement to the sum claimed as holiday pay.

On the employer's appeal it was submitted that this was not a case where the Claimant had been prevented by circumstances beyond his control from taking leave and so the principle relied on by the ET by analogy with sickness cases did not apply. Here, the Claimant had taken a large proportion of his annual leave entitlement each year and the ET had made no findings of fact to support a conclusion that the Claimant was prevented from doing so.

The Claimant contended that it was self-evident that a worker who was not getting paid for annual leave is liable to be deterred or prevented from exercising that right and that this was obviously by reason of circumstances beyond his control. He submitted by reference to Canada Life v Gray and another [2004] ICR 673 that the present case was on all fours with the conclusion in that case: that on termination the Claimant had been refused paid holiday and was entitled to pay in lieu of untaken leave for all previous leave years, that unpaid pay in lieu under regulation 14(2) is capable of giving rise to a claim for unlawful deductions, and that there was a continuous series of deductions from wages throughout the period from 1999 to termination in 2012.

The scope of the WTR

The EAT referred to regulation 13(9) of the WTR which gave rise to the so-called "use it or lose it" principle i.e. that leave must be taken in the course of the leave year in respect of which it is due, so that untaken leave cannot be carried forward and leave may not be replaced by a compensatory payment instead, save where the employment is terminated. On that basis (and subject to any exceptions) if the right to annual leave was not exercised within the appropriate leave year, then the entitlement to that leave expired. Regulation 14 was an exception to this principle, but limited to the leave year in which the worker's employment terminates.

But in [NHS Leeds v Larner ]()[2012] ICR 1389, the Court concluded that entitlement to paid annual leave is not lost in a case where the worker is prevented from taking paid annual leave by reason of sickness throughout that leave year.

Also, following the decision of the House of Lords in Revenue and Customs Comrs v Stringer [2009] ICR 985, it was also possible to enforce holiday pay claims as unlawful deductions from wages in contravention of section 13 ERA.

Was the Claimant prevented from taking his holiday?

The EAT's approach was that in the present case the ET had wrongly focused solely on regulation 14 of the WTR (which states that where employment is terminated and the proportion of leave taken by the worker is less than the proportion of the leave year which has expired, the employer must make him a payment in lieu of such leave). The ET should have started with regulation 13 and in particular regulation 13(9) as construed in Larner (entitlement to paid annual leave is not lost in a case where the worker is prevented from taking paid annual leave by reason of sickness throughout that leave year).

Accordingly the ET was required to consider in the first instance, the requirement in the WTR to take leave within the relevant leave year in question and the prohibition on carrying forward such leave, save where the worker was unable or unwilling to take it because he was on sick leave and as a consequence did not exercise his right. Accepting that sick leave may not be the only circumstance that would act as an impediment, the ET should have considered whether the Claimant was in fact unable or unwilling to take annual leave because of reasons beyond his control and as a consequence did not exercise his right to take annual leave.

However, the ET had made no findings whatever of any restriction on the Claimant's ability or willingness, for reasons beyond his control, to take annual leave in any of the leave years in question. There was no evidence that he was ever prevented from exercising that right. Rather, despite having the opportunity to do so every year, he chose not to do so. In these circumstances, the ET was not entitled to conclude that the Claimant's entitlement under regulation 14 WTR (as interpreted in Larner) had been established simply on the basis that there was no difference in principle between being unable to take paid leave through sickness and being refused paid leave - as it was assumed by the ET would have happened had the Claimant asked for it. These were questions of fact that required findings based on evidence and not assumptions.

Further, if the Claimant was not in fact prevented from taking annual leave each year so that at the end of the relevant leave year his entitlement to leave was lost in accordance with regulation 13(9), then any entitlement to holiday pay would equally be lost. There was nothing in the wording of regulation 14 (subject to Larner) that required the revival of claims for holiday entitlement not taken in previous years.

Was there an unlawful deductions claim?

There was a further difficulty with the ET's reasoning which had indicated that it viewed the claim as based on a refusal to permit the Claimant to take paid leave. Claims for non-payment of holiday pay due under regulation 16(1) or for non-payment of pay in lieu of holiday not taken in the termination year (under regulation 14(2)) can be brought as claims for unlawful deductions from wages properly due. However, the same conclusion did not follow in relation to a complaint based on refusal to permit a worker to take annual leave in accordance with regulation 13.

Here, the Claimant had been paid his wages for the periods he would otherwise have taken as annual leave. Under regulation 30(5) WTR, where an ET finds that there has been a failure to pay in accordance with regulation 16 (1) (or on termination 14(2)), the remedy is an order requiring the employer to pay the worker the amount found to be due to him.

However, where the complaint is based on a refusal to permit the exercise of the right to take leave, an award of compensation is on such basis as is considered just and equitable. That award of compensation was not to be regarded as "wages" within section 27(1) ERA. It is paid as unliquidated damages for the refusal to allow a right to be exercised or in respect of leave that has not been taken. A remedy based on unlawful deduction from wages under section 23 ERA is not available on such a complaint. If that was correct, the Claimant could not rely on a "series of deductions" to extend the ordinary time limits available for a complaint based on the WTR.

The EAT concluded that the decision of the ET could therefore not stand and the case was remitted for further consideration.

Mark Shulman is a Consultant Solicitor with Keystone Law and an accredited workplace and employment mediator. His blog on new employment legislation can be found here.

Published: 11/01/2015 20:50

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