Said to have been originally put in place to prevent the use of such terms "as insults or slurs", it was a step too far for many, including Richard Gaywood, a gamer who was banned from the service.
However, an update to the Xbox LIVE Terms of Use and Code of Conduct will now allow members to, in Microsoft's words, "more freely express their race, nationality, religion and sexual orientation in Gamertags and profiles".
As far as sexual orientation goes, users can now describe themselves as "Lesbian," "Gay," "Bi," "Transgender" or "Straight." Microsoft says the changes are being introduced alongside increased enforcement to prevent the misuse of such terms.
Stephen Toulouse, the director of policy and enforcement for Xbox LIVE, has tweeted his thanks to GLAAD and Microsoft's LGBT community for guidance.