Negative earnings – what is it and when can it arise?
HMRC have recently published guidance in relation to situations where ‘negative earnings’ can arise.
The guidance is contained within EIM00800 to EIM00845 and is considered to be an overdue response to the 2014 upper tribunal case of Julian Martin v HMRC where the judges said that they were ‘astonished’ that there was no guidance on which situations could result in a taxable earnings figure which is ‘negative’ and therefore within s.11 ITEPA 2003.
The above tax case concluded that an employee repaying a ‘signing on’ bonus should receive tax relief because the repayment amounted to ‘negative pay’ for the employee.
Mr Martin agreed to enter into an employment contract under which he received a signing bonus of £250,000 with the provision that he would serve the company for at least 5 years. There was an obligation to make repayment in certain cases of termination of employment. The bonus was subject to income tax and national insurance contributions through Pay As You Earn in the tax year of receipt (2005-06).
In 2006, Mr Martin gave early notice of his intended resignation, and became liable to repay £162,500 to the company – which happened to amount to more than the net amount he originally received. Moreover, the payments reduced Mr Martin’s employment income in the repayment year to a negative figure.
The issue being contested was whether he could claim relief for that repayment against his employment income in the year of the repayment and, in respect of the excess, relief for the loss incurred against the previous year’s employment income.
In the First-Tier Tribunal, it was held that relief should be available on the basis that the repayment of the bonus amounted to negative taxable earnings in Mr Martin’s hands. Negative taxable earnings was a concept that the tribunals struggled with. It was noted that there was no explanation in the legislation of what it means for taxable earnings to be negative or what items of expenditure by an employee could be brought into account.
The Upper-Tier Tribunal upheld the First-Tier Tribunal’s decision and confirmed that the repayments to the company amounted to negative taxable earnings; therefore, Mr Martin was entitled to the relief. As the repayments qualified as negative earnings, the excess could be claimed as an ‘employment loss’ and therefore was relieved against other earnings from the same employment arising in that tax year and the previous year.
The new HMRC guidance was intended to provide a reference point for clarity in similar situations in the future. Unfortunately, it would appear to only cover circumstances of how a clawback of income tax may be due in the event of resignation. The guidance does not cover where a clawback of income is due for other reasons, such as a breach of a restrictive covenant following termination of employment.
Therefore, grey areas still exist and this is a complex area of taxation where specialist advice should be sought to ascertain whether income tax which has been suffered could be reclaimed from HMRC. If you have any queries or would like our advice in this area then please contact us.
This is intended as a summary and overview of the tax situation and does not constitute financial advice and no action should be taken without first seeking professional advice specific to your circumstances.