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What is a settlement agreement and when to use one?

What is a settlement agreement?
It is a legal contract used to either change terms of employment, bring an employee’s employment to an end, or prevent an employment tribunal claim (litigation).

Settlement agreements (which used to be called Compromise Agreements) can be offered by either the employer, or the employee can ask for one.  When being given a settlement agreement, employees should be given 10 calendar days to make their decision on it (accept it, reject it or start to negotiate on the terms).

The purpose of a settlement agreement is for an employer to buy out almost all legal claims an employee has against it (think of an out of court settlement but without any court action having been started).  Some claims cannot be excluded, such as accrued pension rights and unknown personal injury claims. The most common use for one is to agree a termination of the employee’s employment, however, they can be used where an employee remains employed.  This would be for example, where there is a contract change and the employer wants to buy the employee out of a costly or burdensome benefit, such as a final salary pension or certain insurance benefits.  Otherwise, the parties can just agree between them contract variations without the need for a settlement agreement.

The settlement agreement is normally signed in return for a financial exit package.  This would be a lump sum payment which is higher than the individual’s contractual and statutory entitlements.  However, other considerations could be agreed, such as the retention of a company vehicle or expensive piece of company equipment for the employee to take ownership of.

Common use for a settlement agreement

Common examples of a settlement agreement on termination of employment can occur in a redundancy situation, where instead of the employee being paid a statutory redundancy payment (which is based on a set calculation and formula, applying a cap to the weekly salary), the employer pays an enhanced redundancy payment based on the employee’s normal weekly salary.

Another situation would be where the employee has a grievance against their employer and the settlement agreement is used instead of going through a lengthy/time consuming grievance process and appeal.

How much does it cost for a settlement agreement?

It depends on who is asking but typically the employer will offer a contribution towards the employee’s legal fees, provided they receive the signed agreement back from the employee.  On average the costs of advice for one is around £350 to £500 plus VAT and it depends on how many changes or how much negotiation is needed on the agreement.  If there is a lot of negotiation on the settlement agreement then the fees could be higher.

If the legal fees are higher than the employer’s contribution, then the employee would be responsible for paying those additional fees, unless the solicitor has agreed to cap the fees and work on a fixed fee.  NB the legal fees will also be payable if the employee does not sign the settlement agreement.  If the employee takes advice and decides not to sign the terms, the employer’s contribution will not apply and the employee would be responsible for the full fees.

If the employer does not have either a firm of solicitors who they pay a subscription/membership to (meaning they may not have additional fees for this type of assistance as it may be included in their annual legal fees spend), or a legal department within its own business, then the employer will likely incur legal fees themselves to have the settlement agreement initially drafted.

Do you need a solicitor to sign a settlement agreement?

You need to take legal advice on it so this can be from a solicitor.  The solicitor may be required to sign the agreement, but most of the time they provide something called an “Advisers Certificate”.  This basically confirms to the employer that they have given the employee legal advice on the terms.  See our other settlement agreement article about this legal requirement.

In order for it to be legally binding, employees must take independent legal advice on its terms and effect.  The settlement agreement has to be in writing, it has to set out certain important requirements about the particular proceedings and conditions being satisfied; these are legal requirements of settlement agreements, hence the need to take legal advice.

What happens in practice

Once a settlement agreement has been provided, and the employee has found the person they want to give them the legal advice on it, the legal adviser should go through the terms of the agreement with the employee to explain what they mean.  It may be some queries arise as a result of it; a typical query we see is wording to say accrued holiday will be paid, but the settlement agreement does not say how much holiday has been calculated.

On having the legal advice, the employee can then decide whether they agree to compromise out of (meaning to settle) the claims and accept the offer.  If the offer is not suitable then the next stage is for the employee (usually with the help of their legal adviser but they can do this part themselves) to negotiate with the employer on the terms.  This does not always mean the employee wants to ask for more money, it could be that a personal reference is required, or the employee wants to ask to keep their work phone and/or number.

It can be the case that were employers use a settlement agreement template, rather than having the settlement agreement drafted specifically for the employee in question, other terms need to be changed slightly.

Once it is ready for signature

When both sides are happy with the terms and package offered, it is then ready to be signed.  The usual procedure is for the employee to sign it first.  It is then sent to the employer to sign, and at this stage, the agreement is also dated.  This is when it becomes a legally binding contract.  The fully signed and dated version should be sent to the employee so both parties have a copy of it.

What happens next then depends on the employee’s last working day (known as an effective date of termination).  It may be the employee’s employment then ends, and the payments will then be made.  It may be the employee is placed on garden leave (where the employee remains at home and does not need to carry out any work for the employer, but they remain an employee for that period of time).

Important things to remember!

Almost all settlement agreements have a confidentiality clause so the fact an agreement has been signed does not become public knowledge.  In particular, the employee cannot tell their extended family, friends, work colleagues etc.

Most have a clause which stops either the employee (or both the employee and employer) from bad mouthing the other one.  This is referred to with language such as ‘non derogatory’ comments.  So if it is not an amicable departure, the employee cannot post negative comments and opinions about their employer on their social media channels, or in conversation.

In summary, they can be a useful and quick way for either an unhappy employee to leave, or an employer to offer to pay enhanced payments to the employee (with some of those payments having a tax free element to them), without the risk of the employer being sued.

Here at Swan Craig Solicitors, as employment solicitors for employees, we can provide face to face, video or telephone advice on your settlement agreement.  Please contact us to arrange an appointment or complete the form below and we can contact you.

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