Being offered a settlement agreement can be unsettling, particularly if you were not expecting it.
Perhaps you have been through a redundancy consultation, grievance or performance process and knew that an exit might be discussed.
Alternatively, you may have been called unexpectedly into a meeting, told that your employer would like you to leave and presented with a financial offer. Sometimes the first indication an employee receives is an email attaching a lengthy legal document and giving them a deadline to respond.
Whatever the circumstances, the important thing is not to feel pressured into signing immediately.
A settlement agreement can determine much more than the amount of money you receive when your employment ends.
It can affect the legal claims you give up, your notice entitlement, bonus and benefits, what reference you receive, what can be said about your departure and, in some cases, your ability to work for a competitor afterwards.
Therefore, the right starting point is to understand exactly what is being proposed and what your position would be if you did not accept it.
What is a settlement agreement?
A settlement agreement is a legally binding agreement between an employer and an employee or former employee. Typically, the employer agrees to make certain payments or provide other benefits, and, in return, the employee agrees not to pursue specified employment claims against the employer.
Settlement agreements are voluntary. An employer can propose one, but you do not have to accept it simply because it has been put in front of you.
There are also statutory requirements that must be satisfied for a settlement agreement to validly waive the relevant employment claims.
Among other things, the agreement must be in writing, it must relate to the particular complaints or proceedings being settled and the employee must receive advice from an appropriate independent adviser on the effect of the agreement and, in particular, its effect on their ability to pursue those claims.
This is why your employer will usually offer to contribute towards the cost of obtaining independent legal advice.
First, understand what you are actually being offered
One of the easiest mistakes to make is to look for the largest figure in the agreement and treat that as your “settlement”.
The reality is often more complicated. A settlement package might include salary up to the termination date, payment in lieu of notice, accrued but untaken holiday, redundancy pay, bonus or commission and an additional compensation or termination payment.
Some of that money may already belong to you.
Imagine, for example, that your employer describes your package as being worth £25,000. On closer examination, £12,000 represents three months’ contractual notice pay, £2,000 is accrued holiday and £3,000 is a bonus that has already been earned. The genuinely additional settlement payment is £8,000.
That does not necessarily mean £8,000 is a bad offer. It simply means that £8,000 is the figure you should be assessing as the additional payment, rather than treating the whole £25,000 as compensation for giving up your employment rights.
A useful question is therefore:
What would my employer have to pay me anyway if I did not sign this agreement?
Once you know that, you can start assessing what you are genuinely receiving in return for settlement.
Why has your employer offered you a settlement agreement?
The circumstances leading to the offer are often just as important as the document itself.
Settlement agreements arise for many different reasons. There may be a genuine redundancy situation. Your employer may have concerns about performance or capability.
There may have been a breakdown in the employment relationship, or both sides may simply recognise that an agreed departure is preferable to continuing to work together.
In other cases, however, there may already be a significant workplace dispute.
Perhaps you have raised a grievance, complained about discrimination or harassment, made a whistleblowing disclosure, requested reasonable adjustments, been absent because of ill health or experienced difficulties connected with pregnancy, maternity or another form of family leave.
None of those circumstances automatically means that your employer has acted unlawfully or that you have a valuable Employment Tribunal claim. They do, however, potentially change the legal and commercial context in which the settlement offer should be assessed.
This is why two employees earning exactly the same salary can receive identical settlement offers and yet have completely different negotiating positions.
Check your notice entitlement
Your notice entitlement can represent a significant part of the overall package, so check your employment contract carefully.
You need to understand how much notice you are entitled to and whether your employer proposes that you work it, spend it on garden leave or receive a payment in lieu of notice.
If you are being paid in lieu, check whether the proposed payment properly reflects your contractual entitlement.
Depending on your remuneration package, you may also need to consider what happens to benefits, pension contributions, bonus or commission during the notice period.
Notice is also important from a tax perspective. A payment does not become tax free simply because it appears in a settlement agreement. Payments representing salary, holiday, bonus and notice are generally subject to tax in the usual way.
What happens to your bonus, commission and benefits?
If you receive anything beyond basic salary, do not assume it has automatically been dealt with correctly.
If a bonus payment is approaching, for example, you may need to consider whether the scheme is contractual or discretionary, whether you must remain employed on the payment date and whether there is scope to agree a full or pro-rata payment as part of the settlement.
The same applies to commission. If you have generated business or completed work that would ordinarily produce commission after your proposed termination date, check what the relevant scheme says.
Benefits can also have real financial value. Private medical insurance, pension contributions, a company car or car allowance, life assurance and other benefits may all end when your employment terminates.
The proposed termination date can therefore make a meaningful difference to the overall value of your exit.
Don’t overlook the reference
Employees understandably concentrate on compensation, but an agreed reference can sometimes be one of the most valuable terms in the entire settlement agreement.
This is particularly important if your departure follows a grievance, performance concerns, disciplinary allegations or a breakdown in relationships.
Where reference wording has been agreed, it will often be sensible for the wording to be attached to the settlement agreement so that both parties are clear about what will be provided to prospective employers.
You may also want to consider how your departure will be communicated internally. If you are senior or client-facing, an agreed external announcement may also matter.
A good settlement should help protect not only your immediate financial position, but also your ability to move successfully into your next role.
Check any restrictive covenants carefully
Your employment contract may contain post-termination restrictions preventing you, for a period, from joining a competitor, dealing with certain clients, soliciting customers or recruiting former colleagues.
A settlement agreement may expressly preserve those restrictions. Do not simply assume this is standard wording that does not matter.
If the restrictions interfere with the work you are likely to do next, their commercial significance can be considerable. Depending upon the circumstances, it may be appropriate to negotiate for a restriction to be removed, shortened, narrowed or clarified.
For some senior employees, being released from a restrictive covenant can be worth considerably more than obtaining another few thousand pounds in compensation.
Read the confidentiality and non-derogatory clauses
Most settlement agreements contain confidentiality provisions. Some are straightforward; others are extensive. You should understand what information you are being asked to keep confidential, who you can speak to about the agreement and what exceptions apply.
Appropriate agreements should also preserve disclosures that cannot lawfully be prohibited.
You may also be asked not to make derogatory statements about the employer. If so, consider what protection the agreement gives you in return.
If you are promising not to damage your employer’s reputation after leaving, it may be important to consider whether there should be suitable reciprocal protection against damaging statements being made about you.
Should you negotiate the settlement agreement?
Possibly, but negotiation should have a purpose. There is no rule that every employee should reject the first offer and ask for twice as much. Sometimes the initial proposal is commercially sensible and there is little benefit in creating a dispute unnecessarily.
In other cases, there may be good reasons to negotiate. Your employer may not have adequately accounted for your notice entitlement, loss of bonus, length of service, likely period out of work or potential employment claims.
Alternatively, the financial offer may be acceptable but the reference, restrictive covenants, termination date or other terms need improvement.
The important question is not simply, “Can I get more?”
It is:
“What would make this a sufficiently good exit for me?”
That may involve more compensation, but it might equally involve a better reference, bonus payment, later termination date or freedom to join a competitor.
How are settlement agreement payments taxed?
Another common misconception is that the first £30,000 of every settlement agreement is automatically tax free.
That is not correct. Salary, holiday pay, bonus and payments relating to notice are generally taxable as earnings. Certain qualifying termination payments may potentially benefit from the £30,000 exemption, but the tax treatment depends upon the nature of the payment rather than simply the label used in the agreement.
You should therefore understand both the gross value of the package and what you are likely actually to receive.
How long should you have to consider the agreement?
Settlement agreements commonly come with deadlines. The Acas Code of Practice recommends, as a general rule, that employees should be allowed at least 10 calendar days to consider formal written settlement terms and obtain independent advice, unless the parties agree otherwise.
That does not create an absolute rule that every offer must remain open for precisely 10 days. The appropriate period will depend upon the circumstances.
However, if you have been given a very short deadline, do not assume that your only choices are to sign immediately or lose the opportunity altogether. Obtain advice promptly and consider whether additional time should be requested.
Getting legal advice: there are really two questions
For a settlement agreement to satisfy the statutory requirements, you need appropriate independent advice about its effect on your ability to pursue the claims being settled.
However, there is an important distinction between two questions:
“What does this agreement mean?”
and:
“Should I accept this agreement?”
The first requires a careful review of the document. The second requires an understanding of what happened before the document arrived.
At Magara Law, that distinction is important to us. We want to understand the employment relationship and the circumstances leading to the proposed exit because that context may determine whether the agreement should simply be signed or whether there are points worth negotiating first.
Five questions to ask before signing
Before signing a settlement agreement, make sure you can answer these five questions:
- What am I already entitled to receive without signing?
- What additional benefit am I receiving in return for settlement?
- What legal claims or other rights am I agreeing to give up?
- What realistically happens if I do not accept the agreement?
- Does the package give me the financial and professional exit I need?
If you cannot answer those questions confidently, it is probably too early to sign.
Need advice on a settlement agreement?
If you have received a settlement agreement – or are considering offering one – now is the moment to take control of the situation.
Speak to Magara Law today for clear, strategic advice on settlement agreements. We will help you understand your position, strengthen it where needed, and ensure the outcome truly reflects your interests.