Unfair dismissal – settlement claim

Note: This decision has been anonymised.

Introduction

This case dealt with the taxation of a settlement reached on an unfair dismissal claim. The key issue was the proportion of the payment that related to the employment and hence was taxable; and the proportion that related to injury, which was not taxable. In reaching the decision, the importance of the lack of transcript of the agreement reached, coupled with the nature of the grievance was noted.

The Facts

The Appellant's brief when he joined the Bank was to set up, staff and run a department trading in European convertibles. In or about October 2000 his mandate was widened to become global which resulted in a re-designation of his job title to Global Head of Department. The Appellant was a board member and responsible for 80 members of staff. During his tenure with the Bank his department was the most profitable part of the Bank's activities.

His basic salary was £115,000 gross per annum. The Appellant was eligible to participate in the Bank's discretionary bonus scheme. The Bank, however, confirmed in the Appellant's letter of appointment that he would receive a minimum bonus award of $1,833,510 gross in respect of the 2000 performance year.

In early 2002 the Appellant became aware of practices in the Bank's recruitment process and expressed his concerns to the Head of the Bank in London and later with his manager. The Appellant received no satisfaction from the Bank, so in March 2002 he reported the matter to the Financial Services Authority. In September 2002 the Appellant was asked to explain to the Head of the Banks Legal Department a trade that was developed by him in conjunction with the Compliance Department in July 2001.

On 3 October 2002 the Appellant was asked to attend a disciplinary hearing on 4 October 2002 to discuss alleged breaches of the Sales and General Compliance Manuals connected with the trade which was the subject of the legal department's enquiry. As part of the disciplinary procedure the Appellant was provided with a report from the Bank's Compliance Department which detailed the alleged breaches. The disciplinary hearing took place on 9 October 2002.

At the end of the disciplinary hearing the Appellant was informed that he would receive a Stage 3 Final Written Warning. A letter dated 10 October 2002 advised the Appellant that if there was a repeat of his actions he could face dismissal. The letter would remain on the Appellant's personnel file for 12 months, however, it might be referred to for reference purposes in line with the Financial Service Authority's guidelines. Finally the letter advised the Appellant of his right of appeal which could be exercised within five days of receipt of the letter.

On 9 October 2002, the Appellant resigned from his job as Head of Department with the Bank on being told that he would receive a written warning. The Appellant believed that the sanction would seriously damage his reputation. He was a senior City employee and subject to a strict regulatory regime. According to the Appellant, his reputation was critical to his job, it defined the risks that he could take and the amount of capital that he could invest.

On 8 January 2003 the Appellant made a claim of unfair dismissal to the Employment Tribunal seeking the remedy of compensation.

On 3 September 2003 the Appellant's claim was settled by mediation which resulted in the Appellant receiving a payment of £250,000 from the bank together with the payment of his legal expenses. No formal notes of the negotiations conducted at the mediation were taken. The settled sum of £250,000 was not particularised.

On the 22 September 2003 the Bank paid the Appellant £201,600. The Bank deducted tax at basic rate in the sum of £48,400 from the taxable amount of £220,000 (the first £30,000 being free of tax). On 23 September 2003 the deduction of tax was challenged on behalf of the Appellant.

The Issue

The principal issue in dispute was how much of the settlement payment fell to be treated as a payment in consequence of or otherwise in connection with the termination of the Appellant's employment.

The Decision

The parties accepted that the wording of the legislation, in particular in consequence of or otherwise in connection with termination of a person's employment was broad. In the Revenue's view the mere fact that compensation may be for distress or for humiliation or for damage to reputation was not sufficient to take it outside the section. If the compensation for any of the causes was made in consideration or in consequence of or in connection with the termination of employment then it was taxable as employment income.

The Appellant submitted that where there was a termination and a payment, it would be a matter of fact and degree whether the payment was made in connection with the termination. In the Appellant's view there can be no such connection, however, where the termination was wholly irrelevant to the making and quantification of the payment.

However, the Appellant conceded that the behaviour complained of was a single occurrence but the nature of his employer's conduct involving sham allegations intended to intimidate him was so serious as to bring it within the top band of damages. In the Revenue's view, the compensation allocated to injury to feelings should be limited to a maximum of £10,000. Revenue relied on the facts that there was no evidence of a lengthy campaign of intimidation by the employer, and that the Appellant could have continued in his job on the same terms and conditions despite the final warning.

According to the Special Commissioner, the Appellant's proposed apportionment of £250,000 was conjecture on his part. He accepted that there was no record of how the figure of £250,000 was arrived at during the mediation process. In addition, the Appellant's principal weakness in his case was his failure to undermine the compelling evidence of the settlement agreement, which demonstrated a direct link between the compensation and the termination of the Appellant's employment.

The Special Commissioner decided the following in respect of the apportionment of the £250,000 compensation paid to the Appellant under the agreement dated 3 September 2003.

1. £240,000 was directly connected to the termination of his employment, and, therefore, counts as employment income subject to the £30,000 exemption.
2. £10,000 allocated for injury to feelings, which does not count as employment income.

Hence the taxpayer's appeal was dismissed.

The judgment is available online at http://www.bailii.org/uk/cases/UKSC/2009/SPC00734.html.