PHI lump sum payoff - tax free or not?

istaredatthesun

I have been unable to work through disability for 10 years although fortunately I am in receipt of monthly PHI payments from my (former) employers insurance company.

I was laid off from my company a number of years ago and now receive these monthly payments from the insurance company directly.

The insurance company has offered me a lump sum to give up future rights to payments and am finding it impossible to get a definitive answer as to whether this lump sum payment is taxable or not.

The HMRC says that they won't comment on a hypothetical situation, ie before it happens, and can only tell me once I submit my tax return. The insurance company say that in their experience payments are usually tax free, but they have no experience in these particular circumstances - ie somone who is is being paid directly by them.

Further, the HMRC website seems to contradict itself:

hxxp://www[dot]hmrc[dot]gov[dot]uk/individuals/taxexemption.htm#10 says:
There is no tax to pay on this sort of lump sum unless:

• benefits are paid under an employer's or former employer's scheme and you did not pay the premiums, or pay tax on the premiums, that relate to your benefits, or
• the policy would have paid out a sum on death, or is a life annuity or a capital redemption policy.

Ask your Inland Revenue office for help if you are not sure whether or not your lump sum is taxable.


Whereas: hxxp://www[dot]hmrc[dot]gov[dot]uk/manuals/iptm/iptm6140.htm says:
Most lump sums however will be capital, and not chargeable to income tax as savings or investment income or capital gains tax, whether or not the benefits were exempt - see CG69040 onwards.

So in other words the first document says it depends on whether I paid tax on the premiums or not (neither the HMRC, nor the insurance company can tell me this) but the second one says it doesn't matter because the lump sum is tax free whether the benefits were tax free or not.

Contradiction?

And if so, which document has priority over the other, or am I reading this wrong, or just completely missing some other blindingly obvious point?

Many Thanks.

kingstreet

I can understand your confusion.

Benefit payments from an individual PHI contract between you and the insurer are payable tax-free, so if this was a contract between the two of you, I'd say a commuted monthly benefit would still be tax-free.

However, the benefits from an employer sponsored group scheme are paid to the employer, who applies the usual deductions before effectively continuing the salary of an employee. The employer can also treat the premiums as a trading expense, in return for taxing the benefits in the hands of the employee.

The likely issue here surrounds the way the transition from employer payment to insurer payment was made. If the insurer issued a new policy in your sole name and makes the payments tax-free directly to you, you could legitimately claim the payment without payment of tax.

Can you tell us what happened when the payments from your employer ceased and those direct payments from the insurer started? Have you been declaring the payments as part of your taxable income from then?

istaredatthesun

Many thanks for your reply.

Can you tell us what happened when the payments from your employer ceased and those direct payments from the insurer started?

I started receiving a monthly cheque directly from the insurance company with the basic rate of tax already taken off. I don't recall any discussions as whether this was the correct thing to do, and it seems now that nobody (HMRC/insurance company) knows if it was.

Have you been declaring the payments as part of your taxable income from then?

No, but I now realise that I should have been and have been in touch with the HMRC to find out how I go about doing this.



It seems to me there are two separate issues going on here:
1) Should I have been/should I be paying tax on my ongoing monthly payments? and
2) If I were to accept a lump sum as an alternative, should it be taxed?

At the moment I am trying to get an answer to 2) since there is a time limit on the offer. My reading of the two HMRC documents that I quoted above appear to contradict each other: the first one says "it depends" (note1), the second one says no it doesn't (note2) !

(note1) it depends on whether I paid tax on the premiums - ie was it treated as a taxable benefit or not
(note2) it is not chargeable regardless of whether or not the benefits were exempt.


Thanks again for your help.

kingstreet

This is a knotty one. If the insurer is deducting income tax at source, what's happening to your personal allowance? Were you sent a P60 at the end of the last tax year?

istaredatthesun

Yes I've received P60s every year, and until the lump sum offer came in recently, had just been filing them away without really looking at them (doh!). It turns out that as you suspect, I've not been making use of my personal allowance.

I have been in touch with the HMRC and I have to submit Self Assessments going back to 2006 and I should be reimbursed for any tax I've overpaid. Anything beyond 2006 is now lost (doh again!).

Thats the situation with the past tax, which I plan to pursue further with the HMRC in due course.

However, I am still confused about the more pressing question on the taxable situation on the lump sum offer. I don't even know where to start looking to seek further insight.

istaredatthesun

Does anyone know how the HMRC:

• Would handle this type of contradictory information
• Decides which bit of their information takes priority?

Thanks.