In this appeal, the Tax Appeals Commission ruled that a termination payment of €65,000 made to an employee, following mediation with his former employer, did not qualify for exemption from income tax.
Exemption from income tax
Section 192A of the Taxes Consolidation Act 1997 (the "Act") provides for an exemption from income tax of certain payments made for infringement of an employee's rights or entitlements, or an employer's obligations, under employment legislation. The exemption applies to awards made by bodies such as the Workplace Relations Commission, the Labour Court, the Circuit Court and the High Court. It also applies to payments made pursuant to a settlement, arrived at under a mediation process provided for in the Act.
Circumstances of the termination payment
The appellant in this case submitted that the termination payment (as described in the agreement) of €65,000 amounted to compensation paid to him under an agreement reached with his employer. The agreement stemmed back to a formal bullying complaint made by the appellant, which was dismissed by an external investigator. Subsequently, the appellant sought to refer his complaint to the Labour Relations Commission. However, his solicitor recommended the use of a mediator, indicating that the dispute was "tailor-made for mediation". Mediation took place on 19 September 2013; however, during the course of the mediation, the appellant formed the view that he had no future at the company. A severance payment of €65,000 was then agreed between the parties; in addition, the company discharged the costs of the mediation in full and made a contribution of €10,000 to the appellant's legal costs.
The agreement was made conditional upon the appellant waiving all claims against the employer. Moreover, the agreement stated that the company gave no warranty "...as to the amount of tax or pay related social insurance contributions that may be chargeable by reason of the Termination Payment and other arrangements set out in this Agreement".
Revenue submitted that the payment to the appellant did not meet the statutory requirements in section 192A of the Act, and as a result, was not exempt from income tax. While Revenue acknowledged that a dispute resolution process had been engaged in, it had not been a mediation process as anticipated by or provided for in the Act (in this case, the mediation was voluntary, and agreed between the parties). Critically, Revenue argued that the payment of €65,000 to the appellant could not properly be described as an "out of court" settlement, as stipulated by section 192A of the Act. Revenue pointed to section 192(4) of the Act, which provides that in order for such a payment to qualify for an exemption, 'the matter must be advanced to the point where there is a real prospect that the matter will be presented to a court for a decision.'
In addition, Revenue also pointed to the fact that the agreement had been labelled by the parties as a 'Severance Agreement', and that such a payment could never avail of the exemption from income tax provided by the Act.
The appellant argued that the settlement was "strongly indicative of the employer accepting culpability" for the alleged bullying. He also stated that the level of contribution to his legal costs demonstrated the extent of the involvement of his lawyer. However, on its face, the agreement made no reference to the payment being one that arose from a breach of the employment rights of the employee. Moreover, the agreement contained an express term that it was entered into by the company without admission of liability.
Decision of the Appeal Commissioner
In considering the tax implications of a payment made under an agreement, the Appeal Commissioner noted that the starting point must always be the agreement itself – "the meaning of the agreement is determined from a consideration of the agreement as a whole... due regard must be given to the words chosen by the parties."
The Appeal Commissioner noted that there was no evidence that a claim was made by the appellant to a relevant authority. No complaint (in this case, to the Labour Relations Commission) had been submitted, and no statement of claim was produced. Rather, the parties had simply agreed to enter into a process of mediation.
The Appeal Commissioner concluded that the agreement was "...expressed in clear language" and that there was no "...real prospect that the matter will be presented to a court for a decision", as required by section 192(4) of the Act. In those circumstances, the Appeal Commissioner held that the settlement amount was fully taxable.
This case serves as an important illustration of the consequences that can flow from an employee's failure to take tax advice in relation to a settlement reached with his/her employers, where the circumstances of that settlement are such that there is obvious merit in obtaining tax advice.
While it is ultimately a matter for an employee to decide whether or not to obtain appropriate independent advice – whether tax advice and/or legal advice – employers should ensure that any settlements reached with employees contain comprehensive tax warranties in order to protect its interests in the event that the tax treatment of any payment(s) provided for under an agreement is later called into question.
This article contains a general summary of developments and is not a complete or definitive statement of the law. Specific legal advice should be obtained where appropriate.