PHI and dismissal

Knowledge of Disability

PERMANENT HEALTH INSURANCE (PHI) AND DISMISSAL

Summary: Can PHI benefits survive dismissal and remain enforceable as wages after employment ends?

Yes, says the Court of Session in McMahon v AXA ICAS Ltd

Background: Permanent health insurance (PHI) - often referred to as group income protection - provides an employee with a portion of their salary (usually 50–75%) if they cannot work because of long-term illness or injury. These payments normally come from an insurance provider rather than directly from the employer. They usually start after a waiting period of 26 to 52 weeks and most schemes require the employee to remain employed in order to receive the benefit.

Facts:

Ms McMahon started working for AXA in 2000. In 2013 she was dismissed because a long-term illness meant she could no longer work.

Ms McMahon’s employment contract said she would be entitled to PHI benefits after 26 weeks’ sick leave. The scheme promised 75% of her normal pay (minus state benefits), rising by 5% each year, until she recovered or reached age 65. AXA was supposed to have an insurance policy in place to fund these payments, but due to an administrative mistake, no policy existed.

Years after her dismissal, Ms McMahon brought a claim arguing she should still receive PHI payments from the date she was dismissed onwards. She said her contract included an implied term stopping AXA from dismissing her while she was off sick, meaning her dismissal should effectively be treated as invalid.

Tribunal decision

The Tribunal agreed Ms McMahon was owed PHI payments up to the point of dismissal, but said it could not award payments after dismissal because they did not count as ‘wages’ under the unlawful deduction rules in the Employment Rights Act 1996 (ERA 1996).

Ms McMahon appealed.

EAT decision

The EAT agreed with the Tribunal and dismissed the appeal. It said that PHI payments after employment ends cannot be claimed as ‘wages’. Any claim for post-dismissal PHI would have to be brought as a breach of contract claim instead.

Ms McMahon appealed to the Court of Session (the Scottish equivalent of the English Court of Appeal).

Court of Session decision

The Court of Session allowed her appeal.

The key question was whether AXA could rely on the dismissal to avoid paying PHI benefits. The court said no.

It noted that ‘wages’ is defined broadly under s27 of ERA 1996 and can include sums payable in connection with employment, such as PHI. AXA had effectively taken on the role of an insurer, promising to pay benefits as long as Ms McMahon met the eligibility criteria - and one of those criteria was being unable to work. It therefore did not make sense for AXA to stop payments simply because her illness meant she could not work.

The Court said there were several legal routes to reach this conclusion, including:

· Treating PHI benefits as collateral to the core employment relationship rather than dependent on it. Unlike ordinary wages, PHI payments do not require the employee to provide services. A dismissal may end the employment relationship, but it does not necessarily extinguish contractual obligations that operate independently of it.

· Applying the principle from the Supreme Court’s decision in Tesco v USDAW that an implied term may restrict an employer’s right to dismiss where doing so would defeat accrued or accruing contractual benefits.

On either analysis, the PHI payments fell within the extended definition of wages in s27 ERA 1996. If Ms McMahon remained eligible, then AXA remained liable to make the PHI payments.

Implications:

This decision is important for employers who offer PHI benefits. It confirms that, in some situations, PHI payments can still count as ‘wages’ under s27 ERA 1996 even after an employee has been dismissed. That means employees may be able to claim ongoing PHI payments via an unlawful deduction from wages claim in the Tribunal, without facing the financial cap and limitation issues that apply to breach of contract claims.

That said, this case is unusual - especially the employer’s failure to put the employee into the PHI scheme and the Court of Session’s views on the unfairness to the employee - and may have limited impact beyond cases with comparable facts.

Nevertheless, the decision highlights the risks of dismissing employees who are, or may be, entitled to PHI benefits.

Employers should review their contracts and benefit documents to make sure:PHI payments are clearly limited to whatever the insurer pays; and

· Entitlement depends on the insurer accepting the claim.

There should be a contractual term which:

· Explains that PHI is an insured benefit and depends on the insurer’s rules, scheme terms and reasonable premiums.

· Makes clear that the employer does not have to provide an alternative benefit if insurance cover is unavailable.

· States that the employer’s role is simply to pass on payments from the insurer.

· Deals with what happens if a director resigns, where relevant.

· Clarifies how PHI interacts with holiday pay.

· Confirms that providing PHI does not prevent the employer from dismissing an employee.

However, even with careful drafting, employers cannot remove PHI-related risk entirely and employers should remain cautious when considering dismissal for long-term sickness where PHI applies. As this case shows, dismissing an employee does not always end PHI obligations and may leave the employer exposed to significant ongoing liability under the unlawful deduction from wages rules.

Although the judgment comes from the Scottish courts, it is likely to be very influential in England and Wales. The Court relied on UK law (i.e. the wording of ERA 1996 and Supreme Court case law) which means Tribunals are likely to follow the same approach - unless a higher court decides differently.