The Upper Tribunal’s Decision in Michael Saunders v HMRC

A case concerning whether a payment made under a long-term incentive plan, received after the taxpayer became a non-UK resident, was taxable as employment income under ITEPA 2003, s.62. It also addresses whether that payment can be treated as arising in the overseas part of a split tax year and thus escape UK taxation.

The Issue 

The central question to this case was whether payments made to an employee, after ceasing employment and becoming a non-UK resident, should still be charged to tax as ‘employment income’.

This raises questions surrounding whether the taxable event for remuneration linked to employment, particularly related to incentive-based rights, occurs at the grant of the right; the vesting of the right; or the realisation of the right. 

The case also resurfaced, but distinguished the principles in Abbott v Philbin (Abbott), which set precedent that when an employee receives a right or benefit equivalent to ‘money’s worth’, the taxable event occurs at the moment the right is granted, not when it is later exercised or realised. 

The Facts

Michael Saunders (MS) worked for HAUKL from April 2008 to July 2016. He was granted stock appreciation rights (SARs) under a long-term incentive plan (LTIP) by HAUKL’s parent company in March 2013, which either vested immediately, or over a period of 2.5 years. 

After leaving HAUKL and becoming a non-UK resident in August 2016, MS, as a good leaver (left employment under favourable circumstances) received a cash payment in respect of his SARs in January 2017 due to a takeover. 

HAUKL processed this payment through payroll, with PAYE and NIC deductions. In his 2016-17 return, MS claimed split-year treatment and reported the payment as foreign earnings not taxable in the UK, leading HMRC to refund the tax.

Following an enquiry, HMRC amended the return, treating the payment as taxable employment income. 

The First-tier Tribunal (FTT) upheld the view of HMRC and treated the SARs as simple contractual contingent payment rights, such that Part 7 ITEPA did not apply, and stated the payment was earned by MS for services performed whilst he was a UK resident, and for duties performed by him whilst he was in the UK.

MS appealed to the Upper Tribunal (UT) on the basis that the relevant taxable event was the grant of the rights themselves, and not the payment, applying the HL decision in Abbott. 

The Decision

The UT found that a payment made to MS under his employer's LTIP after he became non-UK resident was taxable as employment income; and was earned during his UK-based employment, and therefore not attributable to the overseas part of a split tax year. MS’s appeal was dismissed. 

The UT noted that, in applying Abbott the court is ultimately required to adopt a realistic approach to the identification of earnings for the purpose of ITEPA 2003, s.62, considering the substance rather than focussing on mere form and not taking an overly formalistic approach. 

The question was, on a realistic appraisal of the facts and having regard to the substance of the position, were the payments to MS earnings, or did those payments arise from the earlier taxable receipt of a contingent asset (i.e. did the receipt of the contingent asset, in effect, break the chain of connection between the ultimate payment and the employment (as it did in Abbott)).

The UT differentiated the facts in this case from that in Abbott:

• The SARs were highly contingent rights, not a widely traded asset class like share options.
• The value of the SARs at grant was highly uncertain and difficult to value, unlike share options.
• MS had no control over the timing or occurrence of the sale event that triggered the payment, unlike the exercise of options, accordingly, the payment was not the result of MS’ “judicious assessment” (as in Abbott), but of an event outside his control.

Therefore, whilst accepting that these factors were not identified in Abbott, the UT concluded the taxable event was the receipt of the payment, not the grant of the SARs (even though it was possible to conceive that they might be turned to value in some way). The decision in Abbott did not require all contingent rights that might possibly be monetised to be taxed on receipt rather than on payment.   

The UT also concluded that the payment represented remuneration for services performed while UK-resident and was taxable in the year of receipt under ITEPA 2003, s 18, despite being received by MS overseas.

What does it mean?

The decision confirms that incentive-based payments remain taxable in the UK where they relate to past UK employment, even if received after the employee becomes non-resident, narrowing the scope of split-year relief.

It also clarifies that the principle in Abbott only applies to rights with realisable ‘money’s worth’ on grant, providing important guidance for employees and employers alike on contingent remuneration schemes. 

Questions about employee incentive plans? The Tax Team at Clyde & Co can assist further.