A Settlement Agreement is a contract between the employer and employee in which the employee waives, withdraws and/or agrees not to pursue any employment claims against his or her employer. In return the employer pays the employee a sum of money to induce him or her to enter into the contract. Whether the payment represents a good deal for the employee depends on a number of factors, such as whether the employer has a potentially fair reason to dismiss the employee, the employee’s contractual entitlements and how long it will likely take for the employee to get another job.
Settlement Agreements are often presented to an employee following a dispute. Also employers often use Settlement Agreements when making employees redundant if they are paying the employee an enhanced redundancy payment.
Why do you need to see a solicitor?
Under a Settlement Agreement an employee agrees to waive all potential claims which he or she may have, including those which they may be unaware of. Therefore the law requires the employee to take advice and have the Settlement Agreement signed off by a ‘relevant independent adviser’ for it to be binding.
What claims are settled by the agreement?
Most employers include a lengthy list of claims which are potentially compromised, most of which are usually irrelevant. However claims that should not be compromised include accrued pension rights (if the employee is a member of a pension scheme) and personal injury claims. If these claims are not expressly excluded from the Settlement Agreement then we would seek to amend the Settlement Agreement to exclude them.
What happens to my salary, holiday and notice pay?
Employees should be paid their salary and any accrued but untaken holiday as well as their remaining entitled to any employee benefits up to the date of termination. These payments are subject to income tax and national insurance deductions in the normal way.
An employee may also receive pay for his or her notice period if the employer does not require the employee to work his or her notice. If the employer agrees to pay the employee in lieu of his or her notice, then whether this notice pay is taxable depends on whether the employee’s contract of employment has a pay in lieu of notice clause in it. If it does, then the notice pay is subject to deductions. If it does not, then, as there is no pay in lieu of notice clause in the employment contract, the payment is viewed as not being paid under the terms of the employment contract. Indeed it is viewed as damages paid by the employer for not allowing the employee to work the notice period and can arguably be paid gross (subject to a £30,000 cap – see below). However, Her Majesty’s Revenue and Customs (HMRC) have said that if all employees receive a pay in lieu of notice every time there is a termination, then the payment should be taxed (even if the contract of employment contains no pay in lieu of notice clause).
Is the settlement/termination payment taxable?
The first £30,000 of a termination payment can be paid to the employee without deduction of income tax and national insurance. Any sum over £30,000 is then subject to deductions in the normal way.
What happens if I breach the agreement?
Put simply the ex-employer would be able to sue the employee for damages for the losses which it has suffered because of the breach. Often there are specific clauses in the Settlement Agreement which set out that if an employee breaches the agreement (e.g. makes a derogatory comment, breaches the confidentiality provisions or goes ahead and brings a claim again the employer) the employee will have to repay the whole sum or a proportion of the money paid under the agreement and often the employer’s legal costs. There may be arguments, depending on the wording, that the repayment clause is a penalty and therefore unenforceable.
Common Settlement Agreement Clauses
Invariably there will be a tax indemnity clause. This states that the employee agrees to indemnify the employer in respect of any income tax and employee’s national insurance contributions payable on the termination payment and indeed often on all of the monies paid under the Settlement Agreement. The indemnity may be triggered if HMRC finds upon investigation that sums which were paid to the employee free of deductions (within the £30,000 threshold) should have been taxed. Under the indemnity clause in the Settlement Agreement the employer can seek from the employee the amount of income tax and employee national insurance contributions which HMRC asks it to pay (and often, interest, penalties, fines and costs as well). This indemnity should not extend to tax that the employer has already deducted.
There is often a confidentiality clause that you and your employer will keep the content of the Settlement Agreement confidential. Common exceptions on the part of the employee are that he or she can discuss the agreement with his or her spouse/partner/immediate family/legal representative or as may be required by law.
Most Settlement Agreements include a clause which prevents you making derogatory or disparaging comments about your employer and this usually also extends to your not making these types of comments about their officers and employees. However, this is a clause which we would expect to be mutual in that your employer, or perhaps some named individuals at your employer, should agree not to make derogatory or disparaging statements about you. The employee will not give an absolute commitment but will commonly agree to use its reasonable endeavours to ensure that its employees will not make this type of statement about you on the basis that it cannot be expected to “police” what each member of its workforce might say (whereas you agree not to make the statements because you can control what you say).
Entire Agreement Clause
Most Settlement Agreements have an “entire agreement” clause. This says that the Settlement Agreement supersedes all previous agreements/negotiations that the employee has entered into. In other words if you have been told something on which you place importance and it is not referred to in the Settlement Agreement then you will have no recourse if the employer does something which it said that it would not do or does not do something which it said it would do. The “entire agreement” clause will also prevent you from arguing that, although not set out in the Settlement Agreement, it was implied that your employer would do/not do something.
It is standard to have an agreed reference annexed to the Settlement Agreement. The majority of employers as a matter of course are only prepared to give standard references simply detailing the job you did and how long you worked for the employer. Any reference commenting on your character, performance and achievements would have to be individually negotiated.
Please make us aware of any of the following, if they apply to you:-
- If you are a Director and/or have shares or share options in your employer’s business
- If you have restrictive covenants in you contract of employment
- If you are currently off sick and have the benefit of permanent health insurance
- If you are pregnant
- If you have raised any grievance against your employer.
- If you have worked abroad for part of your period of employment.
When meeting with us, please also bring with you a copy of your Contract of Employment and any other documents you consider relevant.
Disclaimer – for the avoidance of doubt these FAQs do not constitute legal advice but simply guidance on issues commonly arising.