Termination compensation for loss of employment was held outside salary tax where it was not remuneration for past services.

A payment made on termination of employment is not taxable as salary or profits in lieu of salary where it is truly compensation for loss of employment and not remuneration for past services. The Bombay High Court held that the settlement sum was paid because the service contract ended prematurely, and its character was not altered by the employee's surrender of claims or agreement not to take prejudicial employment. Under the salary provision, compensation solely for loss of employment fell outside the charge to tax, so the receipt was treated as non-taxable capital compensation.

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Issues: Whether the sum of Rs. 1 lakh received by the assessee from his employer on termination of service was taxable as salary or profits in lieu of salary under section 7(1) of the Indian Income-tax Act, 1922, or was exempt as compensation solely for loss of employment.

Analysis: The payment was made pursuant to a termination of the assessee's employment and the settlement agreement treated it as compensation for termination of the service contract. The agreed sum was not paid on the footing that the contract continued, but as a consequence of premature termination of employment. The covenant by which the assessee gave up claims and agreed not to take up prejudicial employment did not alter the essential character of the payment as compensation for loss of the source of income. Under Explanation 2 to section 7(1), a payment made solely as compensation for loss of employment and not by way of remuneration for past services is not taxable as profits in lieu of salary.

Conclusion: The sum of Rs. 1 lakh was compensation for loss of employment and was not taxable as salary or profits in lieu of salary.

Final Conclusion: The reference was answered in favour of the assessee and the receipt was held to be outside the charge of tax under the salary provision.

Ratio Decidendi: A payment made on termination of employment retains the character of capital compensation for loss of employment where it is not remuneration for past services, even if the settlement also includes surrender of claims or restrictive covenants.

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