Taxpayer Entitled to Tax Relief on Clawed Back Bonus

A taxpayer who repaid part of a signing on bonus under a contractual claw back provision was entitled to reclaim the tax paid on the clawed back bonus. 

In HMRC v Martin, M received a signing on bonus of £250,000. His employment contract required him to repay a proportion of the bonus if he left his employment in the first five years. M gave notice to terminate his employment within the first five years. As a result he became liable to repay and did repay £162,5000. He sought to claim tax relief for the income tax he had paid on the proportion of the bonus he had repaid.

The Upper Tier Tax Tribunal ruled that the repaid bonus was negative taxable earnings in the tax year in which it was repaid. The negative taxable earnings could be deducted from any positive taxable earnings in that tax year.

The tribunal was keen to stress that the decision in this case turned on its facts. Key to the decision was the fact that the bonus was repaid pursuant to a contractual provision which required repayment if the employee left early in accordance with the contract. The employee’s early departure did not involve any breach of contract on his part and the repayment of the bonus did not therefore represent damages for breach of contract.

With claw back provisions likely to become increasingly common as a result of changes to the Remuneration Code applicable to PRA-regulated businesses (coming into force in January 2015) this case will provide some comfort on this issue. However, tax relief will only be available if the taxpayer has other earnings in the tax year in which the repayment is made.  In addition, each case will turn on its own facts. Careful drafting will assist, but the circumstances in which the repayment is made will also affect its tax treatment. 

Also of concern will be the fact that the ruling does not apply to national insurance contributions, meaning that taxpayers and employers will still be left out of pocket.