When receiving a settlement agreement, agreeing on monetary compensation is often the main battleground, but the settlement agreement terms are often of equal importance. Not taking the time to understand the terms can have disastrous consequences. Below, we set out some key points when considering the specific terms of a settlement agreement.
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For a settlement agreement to be legally binding, you must obtain independent legal advice on its terms and effect. Selecting the right person for this task can be crucial.
Settlement Agreement Terms
(1) – Reason For Termination
In most cases, the employer will produce the first draft of the settlement agreement and it will be this document that the parties then work from. It is not unusual for an employer to insert a background section at the start of a settlement agreement, which then records a reason for the employment being terminated.
However, a reason for termination does not have to be included in the document. If a reason is inserted, it should be consistent with other documents in this regard, such as any reference or communication announcing your departure. Some other points to consider:
- If you have income protection insurance. For example, the policy may only payout in certain circumstances, such as if the reason for termination is “redundancy.”
- If the reason for leaving is relevant to your “leaver status” in respect of any shares or a bonus scheme.
- If there is a termination payment that is being paid (or partially paid) tax-free. For example, if the reason for leaving is recorded as “by mutual consent,” this may risk the tax-free status of the termination payment (often described as an “ex-gratia payment”).
Often the safest approach is to not include a reason for termination (giving thought to whether a specific reason is relevant / required for some other purpose/benefit).
(2) – The Termination Date
One of the key settlement agreement terms is the “Termination Date,” which is the date the employment is to come to an end. This should be a date after the settlement agreement terms were agreed and finalised.
There are often benefits to this date later because you should be receiving your usual salary and benefits up to the Termination Date.
Often employers will propose an earlier date, in a bid to apply pressure for a deal to be accepted and finalised. The Acas Code of Practice on Employment Settlement Agreements recommends that employees are given at least 10 days to consider a settlement agreement. This is often a good point to raise to push the Termination Date back.
A later Termination Date may result in further salary payments and give you more time to prepare for your next steps, such as looking for a new job.
(3) – Your Notice Pay
This relates to your “notice period,” which is the length of time you are to work before the employment comes to an end. This is usually set out in employment contracts, but if not, there is a legal minimum notice period, which is at least 1-week if the employment length was between 1-month and 2 years, then 1-week’s notice for each year employed after 2-years (up to a maximum of 12 weeks notice). For example, if you were employed for 6 years, the minimum notice period will be 6 weeks (although the contract may stipulate a longer period). If you were employed for 20 years, the statutory notice period would be 12 weeks.
Often, an important aspect of negotiating a settlement agreement is whether you are required to work your notice period or not.
If you are not required to work your notice, you should be offered a “payment in lieu of notice,” referred to as a “PILON.”
It will be important to check the terms of the employment contract to see if the contractual right to make a PILON exists and to see what payments are to be paid (for example is it salary only or salary plus benefits).
There are strict taxation rules in relation to PILON payments, which are subject to tax deductions.
You will want to apply your mind to the Termination Date (pushing it back, if it benefits you) and then to receive a PILON (meaning you get paid for the notice period, but do not have to attend work).
(4) – Holiday Pay
If your employment is being brought to an end, you are likely to be eligible to receive a payment in respect of accrued, but unused holiday. If the Termination Date is pushed back (discussed above) then you may accrue extra holiday thus increasing this payment.
It is best to ask the employer to confirm how many days are to be paid and to insert the appropriate figure into the settlement agreement, which will give you an opportunity to check your records and make sure the correct amount is being paid. It is important to check the number of days and rate of pay and not to forget about any days that may have carried over from the previous year.
Understanding settlement agreements and the typical payments provided is important.
(5) – Termination Payment / Other Payments
Part of the settlement agreement terms will set out any other payments that you are to receive. It is essential to check the figures and make sure the settlement agreement terms match what you are expecting.
It is also important to check the date that payments are to be paid. In certain situations, there may be scope to request payments to be paid sooner.
The “Termination Payment” is often referred to as an ex-gratia payment, which is an additional payment acting as compensation to settle a dispute.
(6) Other Payments
Other payments (in addition to what has been discussed above) commonly dealt with in a settlement agreement are:
- Expenses (make sure all expenses are submitted and obtain confirmation they are agreed and will be paid).
- Redundancy payment.
- Shares/long-term incentive plans (including RSUs).
It is important to cover all payments that may be owed because if they are not included in the settlement agreement, they are unlikely to be paid.
If you have worked for all or a good portion of the year toward a bonus payment, there is often scope to request your bonus or a pro-rated bonus payment. Understanding the calculation and bonus payment dates is important on this point, and to make sure a settlement agreement is not being times in an attempt to avoid the bonus payment becoming due.
Settlement agreement terms usually include a confidentiality clause that prevents you from disclosing:
- The existence and terms of the settlement agreement.
- The circumstances surrounding the termination of your employment.
It is best to check that the same provisions apply to your employer. Unless already stated, you should ask for appropriate exceptions to the confidentiality clause (such as you being able to disclose matters with your immediate family on the basis they agree to keep it confidential).
(8) Non-Derogotary Comments Clause
There is also usually a restriction in settlement agreements preventing you from making derogatory comments about the Company, which is there to prevent you from making negative comments about your employer (including in writing/online) after you leave.
It is often appropriate to make this two-way, so a provision can be added to protect you from derogatory comments.
A key benefit to a settlement agreement is you can exit a business and have some control over what the Company can say about you after you leave. This is not something that can be achieved at the Employment Tribunal. The main way of doing this is with non-derogatory comments clauses (see above), references, and leaving announcements (see below).
There is no legal obligation for an employer to provide a reference, but this is a routine part of negotiations and is often something agreed as part of the settlement agreement terms.
It is often best to annex the proposed reference to the settlement agreement, giving you an opportunity to see (and then agree) to the reference in advance and then to insert a clause stating that references (including oral references) are not to be inconsistent with the attached reference.
(10) Leaving Announcement
The final piece of controlling what is said about you when leaving a business (in addition to non-derogatory comments and a reference) is an agreed announcement.
This is where the parties agree to a written announcement (often in the form of an email to clients and/or colleagues) announcing your departure from the Company.
Such announcements often help end speculation and provide an opportunity to be part of what others are being told about you leaving the Company, and agreeing this in advance can prevent any disagreements on this point.
(11) Restrictive Covenants
Restrictive covenants (aka “post-termination restrictions”) restrict certain activities even after the contract has ended. Some common examples are working for a competitor, soliciting or dealing with customers or employees, and interfering with suppliers.
Restrictive covenants may be referred to in the settlement agreement, mainly because they are already present in your employment contract. Restrictive covenants are only ever enforceable if they are necessary to protect the employer’s legitimate business interests.
If you have shares, it will be important to check the shareholder’s agreement, which often contains restrictive covenants that are often longer and potentially more likely to be enforceable.
In the settlement agreement, it is important to make sure that the employer is not seeking to add new restrictive covenants. If new covenants are being introduced, this is likely to be a point of negotiation that may give grounds to ask for additional compensation.
(12) – Tax and Tax Indemnity
A settlement agreement should cover how the relevant payments are to be taxed. For example, any salary (for example up to the Termination Date) notice pay and holiday are taxable payments.
Where a further payment is made (often referred to as an ex-gratia payment) which is genuine compensation for the termination of your employment, HMRC may treat it as free of tax up to £30,000. This will include statutory redundancy payments. Any balance will usually be subject to deductions for income tax at the applicable rates. The entire payment will be free from any NICs.
There may be ways to structure payments to make them more tax efficient, but this will usually fall outside the scope of receiving advice on the terms and effect of the settlement agreement. For example, if the Termination Date is close to the end of the tax year, pushing it back so payments are received (or staggered into) the next tax year, might be an option.
Another common settlement agreement term is a “tax indemnity,” which is where you agree to indemnify the Company in relation to any tax HMRC decides is payable. This means, if HMRC demands additional tax to be paid in relation to payments you have received, then you will reimburse the Company. In practice, this situation rarely occurs. If a tax indemnity is present in the settlement agreement (it usually is) then it is often sensible to add a provision that states if the Company receives a demand from HMRC, then it will give the employee reasonable notice and access to documents/information to provide an opportunity to respond/challenge the demand.
(13) – Assistance with Investigations
A settlement agreement may include a clause that states you will agree to make yourself available and will cooperate with the Company (or its advisers) in relation to any internal investigation process or legal claim. Some examples of this are responding to or defending any regulatory or legal process, where you may be expected to provide information or even a witness statement.
Including this clause may depend on the relevant industry or seniority of the departing employee and if there is an ongoing process when you leave.
If this clause is irrelevant and there is no foreseeable process you may be required to assist with, it might be sensible to ask for this clause to be taken out. If this clause is to remain, then we often add a provision ensuring that if you are required to assist with an investigation, then any reasonable expenses incurred will be reimbursed.
(14) – Garden Leave
Employment contracts may permit the employer to place an employee on “garden leave.” Employers may also seek to add/impose garden leave via a settlement agreement.
When placed on garden leave, you will be paid in the usual way, but will not be expected to attend work. However, you will remain an employee and under the authority of the employer. The employer may also restrict your contact with customers and colleagues. If you want to go on holiday, this should be booked off an authorised in the normal way. Your holiday continues to accrue during garden leave.
If you are asked to be put on garden leave, it is important to check your employment contract to understand if there is actually a provision for this. There are often pros and cons to garden leave, which will vary depending on your individual circumstances.
Settlement Agreement Terms – Conclusion
The above are just some of the common settlement agreement terms. For a settlement agreement to be binding, you must take advice on its terms and effect, so it makes sense to seek our experts in this area. If you have a settlement agreement then please get in touch to understand how we can help you.