When you sign up a Settlement Agreement with an ex-employee you think that’s the end of the matter, right? Clearly that is the general intention, but we already know that even the most procedurally prim and proper settlement agreement can be undone by evidence that it was entered into by fraud or misrepresentation and now we have the question of mental incapacity also.

In Glasgow City Council –v- Dahhan the EAT has concluded that the Employment Tribunal can overturn an otherwise binding Settlement Agreement if it finds that the employee lacked the mental capacity to make it. In essence, all the legal bells and whistles in Section 203(3) ERA and Section 147(5) Equality Act, etc. can’t make binding an agreement which was not valid in the first place.

Do employers signing agreements with employees with mental health issues need to worry about this? Only occasionally. That is due to the very high threshold of incapacity required before a contract entered into would be void at common law and so be an invalid basis for a Settlement Agreement. It is an indication of the level of this threshold that one of the predecessors to the current Mental Capacity Act 2005 was the fairly frankly-named Lunacy Act, passed while I was still at Law School in 1890. This is absolutely not about re-opening Settlement Agreements with employees suffering from “ordinary” stress, anxiety, delusions, bipolar disorder, depression, etc.

The MCA 2005 lays down some basic principles designed to protect those unable to make particular decisions, but also to maximise their ability to make them or at least to participate in decision-making so far as they can:

  1. A person must be assumed to have capacity unless it is established that he does not – therefore the burden is on the employee to show that he lacks capacity, not on the employer to show that he has it;
  2. A person is not to be treated as unable to make a decision unless all practicable steps to help him to do so have failed – in circumstances where the employer knows it is dealing with an employee with very limited mental abilities, it might therefore use a doctor or counsellor to explain the importance of the Agreement as well as a lawyer, and perhaps also simplify the drafting of it;
  3. A person is not to be treated as unable to make a decision merely because he makes an unwise decision – therefore employers need not fear that an employee entering into a Settlement Agreement which sells his rights well short perhaps lacks the capacity to make it binding.

The Act then refers to three categories of mental incapacity:-

  1. Those whose affairs are under the control of the Court. Any contract made individually with such a person, even via a Settlement Agreement, will be void. Employers would need to ensure that the Agreement was signed off by the relevant Court Officer, with the benefit of the usual legal advice required for an Agreement of that sort;
  2. Those whose mental state is such that although not under the control of the Court, they are unable to appreciate the nature of the transaction they are entering. In those cases the contract will still be valid unless that inability was apparent to the employer at the time of the Agreement;
  3. People who are capable of understanding the transaction but who are (as a result of some mental disability) more susceptible to entering into a disadvantageous contract. Contracts made by such people are binding (and hence can be turned into valid Settlement Agreements) unless affected by “undue influence”.

It is this third category who will make up the vast majority of mentally-ill employees signing Settlement Agreements. The involvement of a solicitor for the employee will go a long way to killing off any undue influence argument, so it may be better to resolve these cases via a Settlement Agreement than through Acas where that element of independent advice is not provided.

The key test is therefore whether the employee can be said not to understand the nature of the transaction he is entering into. What does that mean? It is a very different thing from mental illness per se. Employees may have all sorts of odd beliefs, delusions and limitations careering around inside their heads, but none of these necessarily indicate that they do not understand the basic concept of trading rights to sue in return for money. Put in more detail, do they understand the information relevant to the decision to settle, including in relation to the reasonably foreseeable consequences of deciding one way or the other or of failing to make any decision at all? Are they able to retain that information for long enough to make that decision? Are they able to communicate clearly the decision that they have made?

Employers must be careful in expressing reservations about a mentally ill employee’s capacity to contract, since that will apply only in the most extreme of cases and they will be guilty of the worst sort of stereotyping if they automatically extrapolate from a mental health condition of some sort (or from unusual appearance, old age or challenging behaviour) to that level of incapacity.

The EAT in Dahhan sent the case back to the Tribunal for the question of whether Mr D had the mental capacity to contract to be finally resolved. If that is reported, we may then gain some greater awareness of how that judgement would be made by a lay (non-medical) Tribunal. Pending that at least, this case should not alter employer practice in relation to Settlement Agreements.