In brief
In McMahon v AXA ICAS Ltd, a former employee sought to recover PHI payments that she claimed were owed to her after she was dismissed on the grounds of long-term illness in 2013. The employment tribunal and the Employment Appeal Tribunal (EAT) found that the claimant was entitled to payments due before dismissal. The amounts sought post-termination, however, fell outside of the definition of “wages” under section 27(1) Employment Rights Act 1996 (ERA 96) for the purposes of an unlawful deductions claim, and were better categorised as a breach of contract claim - an arguably simpler claim that the claimant had failed to bring.
The Court of Session in Scotland (CoS) allowed the claimant’s appeal, holding that PHI payments owed to an employee after dismissal could be classified as wages for the purposes of section 27(1). Employees seeking to recover PHI payments after termination would previously have had to pursue a breach of contract claim in the High Court, or a claim capped at GBP 25,000 in the employment tribunal. This decision enables employees to pursue unlawful deductions of wages claims under section 13 ERA 96 for unpaid PHI payments post-termination.
Key takeaways
- Employers should audit contracts to ensure drafting in relation to long-term sickness and PHI is as clear and robust as possible. This should be done as soon as possible in light of the restrictions on varying contracts coming into force in January 2027 under the Employment Rights Act 2025 (ERA 25).
- Amidst a rise in sickness absence including mental health related absence and work-related stress (the latter in particular that many insurers refuse to cover), PHI is becoming increasingly relevant and increasingly challenging to administer.
- This decision confirms that if you get it wrong, PHI payments may survive termination and are recoverable through unlawful deductions of wages claims as an employer liability, rather than being limited to common law remedies through breach of contract, or an insurer liability.
- This is an unusual ruling, driven by the specific facts and the CoS’s views of the unfairness to the claimant, but which nonetheless calls into question not only the classification of PHI payments, but other benefits which employees may now seek to fit within the definition of “wages” under section 27(1) ERA 96.
In more detail
Background
Section 27(1) ERA 96 stipulates a wide definition of wages as “any sums payable to the worker in connection with employment”, including any “emolument referable to his employment, whether payable under his contract, or otherwise.” Prior to this decision, it was understood to be the position that this related to payments made in connection with the provision of services during employment (Delaney v Staples). The claimant’s contract of employment with her employer provided that if she remained unable to work after 26 weeks of long-term illness, she would be paid 75% of her salary, increasing by 5% each year until she had recovered or reached the age of 65. Unusually, nothing in the documents specified that the entitlement was subject to an insurer accepting liability, and there was no express right for the company to terminate her employment – both of which are now common contractual provisions. The employer failed to secure the insurance policy to fund the scheme, meaning no payments were made to the claimant during a period of sickness absence from 2011 to the termination of her employment in 2013.
The claimant initially brought an unlawful deductions claim for the period 2011-2013 only, but subsequently sought to amend this in 2022 to include the post-termination period (the long gap from 2013 to 2022 caused by various other claims and appeals brought by the claimant). She argued that there was not only a breach of an implied term not to dismiss her because of her inability to work, but that PHI payments post-termination fell under “sums payable in connection with her employment” and could be deemed “wages” under section 27(1) ERA 96.
The Court of Session’s decision
The CoS considered it “in tune with justice” to rectify the troubling inconsistency of allowing an employer to take the position of an insurer, promise certain benefits for as long as eligibility conditions are met, and then refuse payments on the very grounds that trigger entitlement, i.e., incapacity. In this context, the CoS concluded that there were three legal analyses that supported Ms McMahon’s claim:
- The CoS’s primary conclusion was that PHI payments could be “wages” for the purposes of section 27(1) ERA 96 as sums payable “in connection with employment” or as “emoluments referable to employment”, distinguishing Delaney v Staples which they said was restricted to payments related to termination of employment, unlike the claimant’s case.
In the alternative, the CoS found that:
- Framing the case within the context of Geys v Société Générale, the PHI benefits could be considered collateral obligations under the contract, which were not dependent on an ongoing employment relationship and could survive dismissal.
- Applying Tesco Stores v USDAW, there was an implied term that prevented the employer from dismissing the claimant for the purpose of depriving her of the PHI benefit, meaning the dismissal was a nullity and the employer’s obligations to make PHI payments continued.
The CoS noted that these final two alternatives were not mutually exclusive, leaving a number of routes open to prospective claimants.
The case was remitted to the employment tribunal, under directions that the amendments would be permitted, meaning the claimant will only have to demonstrate that she continues to meet the eligibility criteria to be successful in her claim. The amounts due would also have to be resolved in the event that the parties could not agree.
The liabilities in this claim could be very significant. This reinforces the need for careful drafting of employment contracts relating to PHI benefits and sickness absence. Now is the time to make changes to employment contracts given new section 104I ERA 96 (introduced by ERA 25) will make contractual variations substantially harder.
Financial Ombudsman service
PHI is becoming an increasingly valuable benefit for employees, and costly one for employers, particularly with the growing delays in the employment tribunals leading to longer periods of exposure. Anecdotally, we are all also seeing a rise in complaints being made to the Financial Ombudsman relating to PHI payments. The Ombudsman’s broad approach is to ask if the insurer has discharged their obligation and acted fairly. This is typically a lower threshold to meet than insurers will apply, and we have seen a number of insurer decisions being overturned.
If you would like to discuss this or need assistance with drafting or reviewing of employment contracts in light of this decision, please get in touch with your usual Baker McKenzie contact.
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Archie Capon, Trainee Solicitor, has contributed to this legal update.