Parting with employees can be a very sweet sorrow. It will often be worth investing some time and money in making sure that the parting is permanent, and that you won’t be reunited in the employment tribunal in six months’ time. The best way to ensure this is to settle any potential disputes before they get off the ground.

Contractual and statutory claims

If all the parties needed to do was to compromise contractual claims then this could be a very short document given for consideration. Employment law is more complicated than this however, and what is usually required is an effective way of contracting out of the plethora of legislation which gives rise to the various statutory employment rights. This is usually drafted in such a way that an employee cannot just “opt-out” of his/her rights, except in a prescribed way.

Enforceable agreements

ACAS have special powers to broker agreements, and any agreement endorsed by an employment tribunal will be enforceable. These agreements are only produced after proceedings have commenced, however, and by then the commercial reality of defending a claim can cloud an analysis of what it is actually worth.

For the employer who wishes to exclude the possibility and expense of a claim being brought in the first place the only watertight way to say goodbye is to enter a compromise agreement. That way everyone knows when the end is, what the employee is entitled to and how much it will cost.

Employees should be aware that once they have entered into a compromise agreement it is very difficult to argue that they didn’t understand the terms, or were forced to sign, so if you’re not happy with the terms on offer, the advice is do not sign.

Play some “nice redundancy music”?

One of the trickiest aspects of persuading an employee to sign a compromise agreement is knowing when and how to raise the subject in the first place.

One employee was told that “should she decide that the job was beyond her capabilities” she could “resign on favourable terms”, and that in fact if there were any more customer complaints she would “very likely be dismissed”. The employment tribunal was easily persuaded that her employer had in effect passed a no confidence vote and attempted to bypass the proper procedure. She won her claim of unfair constructive dismissal.

Billington v Michael Hunter & sons 2003

The initial meeting to discuss a compromise agreement should not take the form of a veiled threat. It should be informal, without prejudice and approached with an open mind so that the termination of employment is not the only possible outcome. Where appropriate proper dismissal procedures should be conduced simultaneously, but separately.

The “without prejudice” rule

There is a general rule that written and oral communications between parties which constitute genuine efforts to resolve a dispute between them cannot be admitted in subsequent legal proceedings if they fail to reach agreement. The purpose of this rule is to encourage parties to settle. There must be an actual dispute and the discussions must be a genuine attempt to settle it, or a tribunal might order that such evidence be heard.

The requirements of a valid compromise agreement

In order to be legally binding a compromise agreement must: 

  • Be in writing. 
  • Relate to the particular proceedings or complaint which is being compromised. 
  • Be signed off by a relevant independent advisor who is covered by insurance. 
  • Identify the advisor. 
  • State that the conditions regulating compromise agreements have been satisfied.

The relevant independent advisor must have given advice on the terms and effect of the agreement, in particular its effect on the employee’s ability to bring a claim in an employment tribunal and can be 

  • A qualified lawyer (including a certified legal executive). 
  • A certified and authorised officer, official, employee or member of an independent trade union. 
  • A certified and authorised worker at an advice centre.

Failure to comply with these statutory requirements will render a compromise agreement void leaving an employee free to bring claims which the employer thought were settled.

How much should I offer?

Ultimately the employee can name the sum for which he is prepared to compromise his claims. Often this will be slightly more than the claim is actually worth – why else would he sign?

But the prospect of prompt payment and the avoidance of legal proceedings can be powerful incentives in a downwards negotiation.

A typical payment consists of: 

  • A payment in lieu of notice. 
  • An amount for statutory or contractual redundancy (at least equivalent to a “basic award”). 
  • Compensation for loss of office (the “ex gratia” element), usually by reference to a number of weeks’ or months’ pay and length of service. 
  • Compensation for loss of benefits, such as car, medical insurance, mobile phone, computer etc – sometimes continuation or transfer of these benefits to the employee can form part of the consideration. 
  • An agreed reference. 
  • Payment for any outstanding annual leave.

Why should I pay for my employee to receive legal advice? 

The law does not state that you must pay but it is common practice to do so. Since the employee must receive advice for the compromise agreement to be valid, the employer has an interest in making sure that the advice is properly given. It is of course sensible to set a limit to the contribution to legal fees.

Taxation of payments

As set out above the compensation package will usually consist of different elements and consequently those elements may fall to be taxed in different ways. There are provisions so that in certain prescribed situations the first £30,000 of a payment made in consideration of the termination of employment can be paid free of tax.

This exemption does not apply to payments of notice monies which are made pursuant to the contract (such as a “payment in lieu of notice” clause).

To the extent that an employee is paid over £30,000 under a compromise agreement the excess which is taxable will be taxed at the employee’s marginal rate, so that an employee who is a higher rate income tax payer will be liable for the higher rate on all of the excess.

Certain payments are exempt from taxation in their own right and do not have to be included when assessing the value of the package for the purposes of the £30,000 exemption, (although you should always check the criteria associated with these). These are payments in respect of: 

  • Benefits in connection with a taxable vehicle (eg private use, servicing, insurance). 
  • Use of a mobile telephone. 
  • Provision of computer equipment up to £500 per year. 
  • Employer’s contributions to an approved pension scheme. 
  • Legal costs connected with the termination.
  • Counselling and outplacement services (including travel expenses), as long as the employee has qualifying service and the payment meets certain criteria

Restrictive covenants

Employers may want a departing employee to sign up to new restrictive covenants on departure, and should expect to give consideration for these.

If the consideration is only nominal the Inland Revenue might interfere and “apportion” part of the consideration which is given for the compromise as being for the restrictive covenants. In any event income tax and national insurance will be levied on the consideration which is given in respect of any new restrictive covenants.

Additional clauses

Compromise agreements can also contain warranties and indemnities given by both parties, depending on their circumstances and their particular interests and concerns. Employees should be aware that giving a false warranty that they know of no conduct of their own which would entitle the employer to dismiss them anyway, might release the employer from its obligation to pay up under the agreement.

Employers who have calculated an amount to recompense an employee for a period of unemployment may want a warranty from the employee that he or she is not about to walk into another job.