Human resources are key to a company’s core competences. In Beijing, as the household registration quota is scarce, enterprises often attract employees by helping them obtain household registration. However, some employees have their own calculation, which is to leave their jobs as soon as they obtain the quota. Facing such a situation, what can enterprises do to protect their legitimate rights and interests? We will discuss this matter through a review and analysis of a case in Beijing.

Case Summary

In July, 2012, Mr. Zhou, a college graduate, was employed by a securities company in Beijing ( “Company A”), under the condition that Company A would secure for an household registration quota for him. Zhou signed a commitment letter promising that he would not resign within the first 5 years of obtaining the household registration. He agreed to pay RMB 100,000 in penalty to Company A in case of going back on his word. The penalty would be calculated on the basis of the actual length of his employment and would be reduced by 20% for every year of service at the company. In November, 2012, Zhou’s household registration was approved by the Xicheng District, Beijing authority. In June of 2014, before the employment contract expired, Zhou submitted his resignation to Company A, and paid RMB 60,000 (the “Penalty”) to his former employer according to the commitment letter. 

After his resignation, Zhou filed an application to the Xicheng District Labor Dispute Arbitration Commission (the “Xicheng Arbitration Commission”), demanding Company A’s return of the Penalty. In June, 2015, the Xicheng Arbitration Commission supported Zhou’s claim. Company A disagreed with the arbitration award and brought the case to the Xicheng District People’s Court (the “Xicheng Court”), which later ruled in favor of Company A. Zhou appealed the court decision to No. 2 Beijing Intermediate People’s Court, which upheld the Xicheng Court’s judgment. 

Company A claimed that, when he signed it, Zhou fully understood the content of the commitment letter, including the provisions of compensating Company A for breach of contract. Therefore, Zhou’s payment of the Penalty was to perform his obligation set by the commitment letter, and it reflected Zhou’s true intention. Zhou’s resignation during the agreed service period had violated the good faith principle of and caused huge actual economic losses to Company A, and he should be liable for the losses caused by his irresponsible behavior. In conclusion, there was no ground for Company A to return the Penalty to Zhou.

Zhou argued that the commitment letter was established on the basis of his employment relationship with Company A, which should be taken as part of the employment contract. The penalty stipulated in the commitment letter was liquidated damages in nature, and the provisions concerning service period and liquidated damages stipulated in the commitment letter should be deemed invalid because they had violated the Employment Contract Law and the relevant meeting minutes of Beijing. For the above reasons, he was not liable for the Penalty.

Rationales behind the Arbitration Award and Court Judgments

1. The Xicheng Arbitration Commission held that:

The provisions in the commitment letter regarding service period and liability for breach of contract based on the condition that the employee was provided with household registration quota violated Article 25 of the Employment Contract Law, and therefore, should be deemed as invalid. The Company lacked factual or legal basis to demand the Penalty from Zhou. As a result, the Penalty should be returned.

2. The first and second-instance courts held that:

The commitment letter submitted by Zhou could be deemed as a promise made by him based on the employment relationship, and was part of the employment contract. Because of the violation of law, the stipulations concerning service period and liquidated damages could not be the ground on which the employee had to pay a penalty to his employer. However, since Zhou’s violation of the good faith principle was clear, the penalty was well grounded. Besides, he paid the Penalty voluntarily. Therefore, when he resigned from the company, there was no factual or legal justification for demanding Company A to return the Penalty. 

Comments on the Arbitration Award and Court Judgments

The case went through arbitration, first-instance trial and second-instance trial. The arbitration commission and the courts made conflicting decisions about whether Company A should return the Penalty. In view of the different perspectives and bases held by the arbitrators and judges, combined with our experience drawn from previous similar cases, we summarize the following points for companies’ consideration.

1. To reduce legal risks, employers may consider signing a commitment letter with employees before assisting them with acquiring household registration.

Article 33 of Meeting Minutes of the Beijing Higher People’s Court and the Beijing Labor Dispute Arbitration Commission on Law Application in Labor Dispute Cases (the “Meeting Minutes”) states: “If an employer and an employee agree on the service period and liquidated damages based on providing household registration quota, the employer’s demand for liquidated damages from the employee under the agreement will not be supported. If the employee violates the good faith principle, and in turn causes losses to the employer, then he or she should compensate the employer.”

In Beijing, if employers and employees reach an agreement on the service period and liquidated damages based on household registration, such an agreement could hardly be supported in practice. However, according to the Meeting Minutes, if employees violate the good faith principle and cause losses to employers, employers may demand compensation from employees. Therefore, to evaluate the losses caused by an employee’s early resignation and to increase the likelihood of an employer’s winning a lawsuit and reduce the employer’s burden of proof of actual losses, the employer may consider entering into a commitment letter or agreement with the employee.    

It should be noted there is a special reason why Company A won the case: before he filed for arbitration and a lawsuit to demand a return, Zhou had already paid the Penalty to Company A according to the commitment letter. After a comprehensive consideration of the employee’s intention and the severity of the violation of the good faith principle, the judges supported Company A. In practice, if an employee does not pay a penalty to the company for losses according to the commitment letter, it will still be difficult for the company to demand compensation according to the commitment letter. 

2. To calculate and prove any losses caused by an employee’s resignation, the employer may consider issuing an analysis of profits and losses.

Employees will become the legitimate owners of the household registration quota after they apply and obtain the registration. Generally speaking, since the employer is neither owns the Household Registration nor approves the application of registration, returning the registration to the employer by the employee is out of the question. In addition, it is also very difficult for employers to prove the losses related to such resignation

In practice and in most cases, arbitrators and judges will review specific losses caused by employees’ resignation and demand employers to prove them. If employers cannot prove their actual losses, arbitrators and judges are very likely to find that the provisions ascertaining the losses are liquidated damage clauses, and then rule that the relevant provisions are invalid. If so, employers still need to prove the actual losses.

Therefore, when a dispute arises, the employer may consider issuing an analysis of profits and losses caused by an employee’s early resignation and providing evidence of costs of remuneration, training, office and recruitment. Coupled with a commitment letter with the employee, the employer could increase the probality of winning a case. However, to what extent arbitrators and judges will admit such evidence depends on its probative value and their discretion and determination.

In conclusion, before assisting employees in the application of household registration quota, employers may try to reduce legal risks by signing a commitment letter or other agreement with employees. Meanwhile, they may also consider issuing an analysis of profits and losses to prove the actual losses by an employee’s early resignation. 

Editor’s note: this article was simultaneously published on Chinalawinsight.com