What is a Settlement Agreement? The Complete Guide for Employees

Has your employer offered you a settlement agreement?

If your employment is coming to an end, it can be an uncertain and confusing experience. It’s common for your employer to offer you a settlement package. However, many employees feel intimidated if they’re presented with a long document. Why is it necessary? What do all those clauses mean?

This article is intended to be a complete, comprehensive, everything-you-ever-wanted-to-know, definitive and ultimate guide to settlement agreements. And that’s putting it mildly!

A short(ish) history and definition

A settlement agreement is a document that records an employee’s confirmation that they will not pursue a claim against their employer. It can cover almost any kind of claim including:

• Unfair dismissal
• Discrimination
• Redundancy
• Unpaid Wages

Documents by which employees signed away their employment rights date back to 1993 but in those days they were called compromise agreements.

There are various conditions that need to be in place for the document to be valid. For example:

• It must be in writing
• It must relate to a specific claim (or claims) that the employee could raise against the employer
• The employee must have received legal advice

Your solicitor will need to make sure that the document fulfils all the necessary requirements.

Signing Away Your Employment Rights

Signing the agreement will mean that you can’t pursue an employment related claim against your employer. That’s why it’s so important that you get the right legal advice. You need to know what sort of a claim you may have.

Many people are surprised to be offered a settlement because they’re parting with their employer on amicable terms. However, employers will often offer one as a matter of course just to be on the safe side.

The complete document will usually have a long list of potential claims. You probably don’t need to go through all of them in detail as long as you know that, by signing the agreement, you won’t be able to bring any claim at all.

If you feel that you have a potential claim against your employer, let your solicitor know all the details. You will then be advised on whether the money being offered is appropriate.

How Much Money Should You Expect in Your Settlement Agreement?

The Termination Payment

If you’ve received a financial offer, how do you know whether it’s fair?

It’s not an exact science but, since you’re waiving your right to bring any claims, the amount offered should reflect the value of the claims you’re giving up.

So, the questions that you may need to discuss with your solicitor include:

• Is there any potential claim you could bring against your employer?
• If so, how likely is it that the claim would succeed at a tribunal?
• If you did succeed, how much would you be likely to recover?

The answers to these questions will affect the amount that you should expect your employer to pay you.

If you have a strong claim against your employer, they are more likely to give you a higher termination payment. If you don’t have any realistic claim against your employer, there’s not much incentive for them to pay your money.

Should You Negotiate?

Often employees are very happy with what they’ve been offered. They just want to sign the agreement and move on. If that’s you, then great.

However, sometimes employees feel they’re not receiving what they deserve and it may be possible to negotiate a better settlement.

The strategy for any settlement discussions may involve threatening to make an employment tribunal claim if the employer doesn’t pay you more money. However, keep in mind that:

• The employment tribunal procedure is likely to take at least 6 months. If you pursue this route, you will of course need to wait much longer before recovering any money;
• Employment Tribunal proceedings can be stressful and emotionally draining;
• There’s no certainty that you will be successful in an Employment Tribunal hearing.

You may find it’s better to accept a settlement payment than to pursue a tribunal claim against your employer. Your solicitor will be able to advise you on whether your employer has broken any employment law and your prospects of success in a tribunal.

You may prefer to negotiate on the basis of good will, rather than a strict entitlement under employment law. You’ve worked hard for the company and contributed a lot. Losing your job is very inconvenient. You feel very disappointed. These are factors that an employment tribunal won’t necessarily look at but they may help to persuade your employer to pay you more.

Should you have a ‘protected conversation’?

Sometimes, employers and employees are reluctant to be honest about the employment situation in case their words are used in evidence against them.

In order to encourage people to discuss freely, the law allows discussions to happen ‘off the record’ in a protected conversation. This means you can negotiate freely without fear that it will be used against you.

Your solicitor will be able to advise you of the best strategy for negotiation.

What about tax?

A common question is whether the amount you’re receiving is taxable or tax free.

The answer is simple: It depends!

As a general rule, the first £30,000 of a termination payment (including any redundancy payment) is exempt from tax.

Contractual payments, such as salary, holiday pay and bonuses will be taxable.

The tax treatment of a payment in lieu of notice (“PILON”) will depend on whether it’s contractual or not. If there’s a clause in your employment contract allowing your employer to make a PILON, then the PILON will be taxable.

However if there’s no contractual right to the PILON then it should be exempt from tax. Your employer can pay you the same amount but call it compensation for not working your notice period. It can then be paid tax free.

If you’re concerned about whether or not a PILON is taxable, you will need to let your solicitor have a copy of your employment contract. Often a settlement agreement states that a PILON is taxable when it shouldn’t be. Your solicitor can discuss with your employer whether this can be changed, so that you can save tax.

For more information about how much tax you may have to pay, click here.

Holiday Entitlement

If you haven’t taken all of your holiday entitlement, you have the right to be paid for it instead.

This only applies to your statutory entitlement and not additional holiday that you may be entitled to in your employment contract.

The payment due in relation to accrued but unused holiday pay is usually calculated on the basis of the annual salary divided by the number of working days for each day’s holiday entitlement. It should be based on working days and not calendar days.

The relevant calculation of a day’s pay for a full-time worker is 1/260 of your annual salary.

The law doesn’t allow employers to deduct money from the employee’s final salary where the employee has taken holiday in excess of their entitlement. The employer will only be able to do this if there’s a right to do so in the employment contract.

What else can you expect to find in the formal document?

Every situation is different but here are a few clauses you should expect to see:

Reasons for termination

Your employer doesn’t have to give a reason for termination. If a reason is given, it will have to be consistent with any reference that your employer provides.

The reason for termination may be relevant if you have Income Protection Insurance, for example as part of a house insurance policy. Some insurance policies only pay out if the reason for termination is redundancy.

Without prejudice and subject to contract

Settlement agreements are nearly always marked ‘Without prejudice and subject to contract’. But what does that mean?

‘Without prejudice’ means that the document can’t be used in evidence in court or employment tribunal proceedings. This will apply until it’s signed.

‘Subject to contract’ means that the document won’t be binding on either party until it’s properly executed. In other words, neither you nor your employer is under any obligation until all the formalities have been completed. Your employer is not obliged to keep the offer open for any length of time.

Will You Get a Reference?

There’s no legal obligation on an employer to provide a reference for an employee or ex-employee. Employers can refuse to provide a reference if they want to.

However, it’s common to include a clause stating that the employer will provide a reference in an agreed form. The reference is usually annexed to the agreement.

Often this reference is very basic and provides minimal information such as start date, finish date and job title. Most employers these days are not surprised to receive such a simple reference.

However, if you do need a better reference you could ask a line manager or someone you’ve worked for to provide you with a personal reference.

Garden leave

Your settlement agreement may provide that you will be on ‘garden leave’ until the end of your employment.

This means that you’re not expected to attend the office. You’re still employed but you’re free to stay at home (or potter around in the garden!)

You do however remain an employee and subject to your employer’s authority. For example, you won’t be allowed to go on holiday without properly booking time off work.

The aim of garden leave is to protect the employer’s business interests, such as confidential information or customer relationships.

Most employees are more than happy to be on garden leave because they continue to get paid without having to attend work.

The Adviser’s Certificate

Most settlement agreements include a certificate for your adviser to sign. This is to confirm that you have received the necessary advice and that your adviser is suitably qualified and insured.

Costs contribution

Usually, employers include a clause agreeing to pay a contribution towards your legal costs. Depending on how much your solicitor charges for advice, this should be enough to cover your costs in full.

How long should your employer give you to think about the settlement offer?

There is no law that requires your employer to give you a minimum time period to consider the package they’re offering.

However, the ACAS Code of Practice recommends 10 calendar days:

As a general rule, a minimum period of 10 calendar days should be allowed to consider the proposed formal written terms of a settlement agreement and to receive independent advice, unless the parties agree otherwise.

This is considered to be good employment practice. It gives you the chance to think about your options and to obtain legal advice.

Free Consultation About Your Settlement Agreement

If you’ve received a settlement agreement, call us now for a free consultation.

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