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In the case of Moorthy v The Commissioners for HMRC the Upper Tribunal (Tax and Chancery Chamber) has concluded that "injury” in section 406 of the Income Tax (Earnings & Pensions) Act 2003 (‘ITEPA’) does not include injury to feelings.

In doing so, the Upper Tribunal has squarely disagreed with the decisions of the Employment Appeal Tribunal (‘EAT’) in Orthet Ltd v Vince-Cain [2005] ICR 374 and Timothy James Consulting Ltd v Wilton [2015] ICR 764 which concluded that it did.

Eleena Misra discusses whether or not "injury” in section 406 of the Income Tax (Earnings & Pensions) Act 2003 includes injury to feelings.


Sections 401 and 406 ITEPA

The salient parts of ITEPA are helpfully set out in Moorthy itself. 


Jacobs employed Mr Moorthy as Executive Director of Operations. Further to a restructuring process, Mr Moorthy was dismissed by reason of redundancy. He was given notice on 12 March 2009 and placed on garden leave until 12 March 2010 when his employment terminated.

Mr Moorthy brought a complaint of unfair dismissal and age discrimination (in dismissing him) in the Employment Tribunal (‘ET’). He contended that he had been dismissed or selected for redundancy on the grounds of his age, contrary to the Equality Act 2010. Amongst the suite of remedies sought by Mr Moorthy was an award for injury to feelings. However, further to mediation, a compromise was reached with his former employer. Pursuant to the terms of a settlement agreement, Jacobs agreed to and did pay Mr Moorthy ”an ex gratia sum of £200,000 by way of compensation for loss of office and employment” without admission of liability. The sum was not allocated to any particular heads of claim, but was expressed to be in full and settlement of the ET claims as well as any other claims arising out of or connected with the employment or its termination. The first £30,000 was paid on a free of tax basis with the balance subjected to a 20% tax deduction.

A dispute arose as to the proper tax treatment of the sums in question. The First Tier Tribunal (‘FTT’) found that the whole of the settlement payment fell within section 401(1) ITEPA as it was made "directly or indirectly in consideration or in consequence of, or otherwise in connection with” the termination of Mr Moorthy’s employment.

The FTT recorded that it was no part of Mr Moorthy’s case that "the payment fell within the exemption in ITEPA s 406 as being for injury or disability” although, on appeal to the Upper Tribunal, counsel for Mr Moorthy disagreed that this correctly reflected the position below, and was, in any event, allowed to argue the point before the Upper Tribunal, which considered it to be an issue of importance upon which guidance should be given.


The Upper Tribunal approached section 406 ITEPA on the basis that it operated to take certain payments out of the charge to tax; section 401 had to apply before one considered the exempting provision in section 406.

It went on to postulate that the correct question under section 401 is whether the payment received is directly or indirectly in consideration or in consequence of, or otherwise in connection with, the termination of employment. If the answer is yes then section 401 applies whether or not there is a claim for discrimination. The existence of a discrimination claim could be relevant where "the discrimination is unconnected with the termination of employment” but "it does not change the question to be addressed”. In this regard, the Upper Tribunal expressly disagreed with the FTT in Oti-Obihara v HMRC [2010] UKFTT 568 (TC), which it considered to have misinterpreted the earlier case of Walker v Adams [2003] SpC 344; in Walker, said the Upper Tribunal, the Special Commissioner did not have to consider the proper tax treatment of payment said to have been made for injury to feelings because the Revenue had conceded that it was not a payment made in connection with termination and therefore this was not a point which needed to be argued. It was therefore wrong to say, as the FTT held in Oti-Obihara, that a compensation payment made by an employer to an employee was taxable under section 401 ITEPA if the discrimination caused the termination and then only to the extent of financial losses caused by the termination.

Turning to section 406, the Upper Tribunal considered the predecessor provision (section 188(1)(a) ICTA), which exempted from tax "any payment made in connection with the termination of…employment by the death of…or made on account of injury to or disability of [the employee]” as had been considered and applied in Horner v Hasted (Inspector of Taxes) [1995] STC 766, a decision of the High Court on appeal from the Special Commissioner. In Horner, said the Upper Tribunal, injury was implicitly accepted to be a medical condition preventing the carrying out of employment duties.

Unfortunately, Horner had not been cited to the EAT in Orthet a case in which an employee had been paid £15,000 for injury to feelings in a sex discrimination case. The EAT held that injury to feelings were not taxable whether or not they arose from the termination of employment, giving its key rationale in paragraph 33 (recited in paragraph 47 of Moorthy). When the EAT came to grapple with the issue again, in Timothy James, it now had the benefit of arguments on Horner, as well as the FTT decision in Moorthyitself, but Singh J concluded that it would not have made any difference to the outcome in Orthet and that it should be preferred.

The Upper Tribunal, taking each of the EAT’s reasons in Orthet in turn, held that they "provide very little support for their conclusion that awards for injury to feelings, whether in connection with the termination of employment or otherwise, are not taxable.”

Instead, the Upper Tribunal held that the word "injury” in section 406 fell to be considered and interpreted together with "death” and "disability” as something which had led to the termination of employment or to a change in duties or level of earnings. Further, contrary to the view taken by the EAT in Timothy James, the Upper Tribunal found that the side-note to section 406, which refers to an exception for death or disability payments and benefits supported an interpretation of the word "injury” as meaning "a medical condition that results in the termination of employment or a change in duties of earnings related to the employment” and did not include injury to feelings.


One may quibble with the Upper Tribunal’s treatment of section 406 ITEPA as an exempting as opposed to an excepting provision. However, on the whole, some clarity is provided further to a series of apparently conflicting tax decisions.

That said, as regards section 406 ITEPA, there is now directly conflicting authority on point from two courts of superior record: Orthet and Timothy James at EAT level as against the Upper Tribunal’s decision in Moorthy. This is unlikely to be the last word on the issue.

For now, adopting the approach of the Upper Tribunal, where an award or settlement payment received is directly or indirectly in consideration or in consequence of, or otherwise in connection with, the termination of employment then it matters not whether there is a discrimination claim when deciding whether section 401 ITEPA applies. There is no discrimination claim or injury to feelings ‘carve out’ for section 401.

However, practitioners should note the decision in A v HMRC [2015] UKFTT 0189 (TC), in which section 62 ITEPA (earnings) was engaged for the purpose of the tax charge. Here A, a trader in a bank, made a claim of race discrimination, alleging that he had been treated less favourably in connection with the payment of salary and annual bonuses. He was later dismissed by reason of redundancy, his grievances not having been addressed by that time, further to the acquisition of his employer by a larger bank. He was paid sums in connection with the redundancy and £600,000 in settlement of all outstanding and potential claims. HMRC did not seek to argue that section 401 applied. The Upper Tribunal noted that, in that case, this may have been because it was common ground that the payment related to allegedly discriminatory treatment during the course of A’s employment rather than the dismissal (in respect of which separate payment had been made).

Accordingly, there is still scope to argue that a settlement sum in respect of injury to feelings and losses relating to discrimination prior to dismissal i.e. separable from termination is a priori outside section 401 and is in settlement of a discrimination claim rather than earnings under section 62 ITEPA.

Care must be taken in negotiating settlements involving global sums which are not allocated to particular heads of claim and ET Awards following a similar global approach may also prove problematic especially where there are multiple causes of action and a termination of employment.

At the heart of the disagreement between the employment and tax experts is whether "injury” in particular context of section 406 is wide enough to encompass injury to feelings so that a termination payment, which is caught by section 401, is nonetheless exempted by section 406.

The Upper Tribunal placed great emphasis on Horner in its analysis of section 406, whilst noting that Hornerwas concerned with the predecessor provision in section 188(1)(a) ICTA. Section 406 ITEPA is said to be an exception for death or disability payments and benefits, which does not perhaps lend itself quite so readily to "injury to feelings”, but there may yet be some mileage in the points articulated by Singh J in Timothy James (paragraph 67), in seeking to distinguish Horner which focuses on the meaning of "disability” rather than "injury” and in circumstances in which the reasoning is obiter.

Post Moorthy it may be that the number of discrimination claims which now actively plead pre-dismissal acts of discrimination or a claim in personal injury arising from discrimination increases.

Perhaps more saliently, we all await the results of the recent consultation by HMRC on the treatment of termination and other employment payments:



Eleena Misra is the Employment Law Lead to the Law Reform Committee of the Bar Council and responded to the HMRC Consultation on behalf of the Bar Council together with a specialist tax adviser. She is regularly instructed in high value discrimination claims including those involving personal injury and is ranked in the directories as a leader in Employment & Equalities Law.

Recent lectures include: Employment and Personal Injury at the Intersection and Senior Executive Remuneration: Variable Pay.

Recent Publications: Blackstones Employment Law Practice

Eleena is joint Head of Professional Discipline at Littleton Chambers.

Posted: 12.02.2016 at 10:27
Tags:  Comments  Employment Law
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