Settlement agreements are legally binding contracts that seek to end an employment relationship on agreed terms.

Settlement agreements, sometimes known as compromise agreements, are agreements between an employer and an employee, usually to end an employment relationship on agreed terms. In these legally binding contracts, employees waive their right to make a claim to an employment tribunal or court, in exchange for compensation from their employer. Typical claims waived include unfair dismissal, discrimination claims, and claims for redundancy.

In response to the COVID-19 pandemic, many businesses have made changes to their workforce. Employees may find themselves placed on furlough,  laid off, or in collective consultation. Redundancy is also on the rise as some employers make more permanent changes, and we can anticipate a similar rise in employee claims to the employment tribunal as a result. But to avoid the stress, time, and cost of going to court, many employers and employees should consider turning to a settlement agreement instead.

What are the benefits of a settlement agreement?

The only binding way to resolve an employment dispute without going through a costly employment tribunal is via a settlement agreement. It is important to ensure that yours is correctly drafted and executed, in order to have the intended legal effect.

Settlement agreements are typically a faster and more cost-effective method of effectively resolving a matter, which benefits both employer and employee. With an expected rise in cases being heard at the employment tribunal, more parties may turn to these agreements to bypass the long delays anticipated in employment proceedings. These documents also give parties greater certainty, privacy in their affairs, and specific tax advantages. Following a grievance procedure, these agreements avoid the escalation and stress of legal proceedings, which can help the employer repair the relationship with any employee they wish to continue employing.

What factors should be considered before entering the agreement?

The agreement must relate to a particular complaint or particular proceedings such as unfair dismissal or discrimination. If the matter has arisen out of a potential dispute, an employee may wish to consider your right to bring a claim against the employer at an employment tribunal.

  • Time limits to bringing a claim

Employees have a set amount of time to bring a claim against their employer. After this time, they will not be able to bring a claim and will lose their leverage in the settlement agreement. The time period will be different for different claims. For instance, for an unfair dismissal, the time limit is 3 months from the termination date. For a redundancy payment claim where the employee was terminated without notice, the time limit is 6 months from the termination.

  • ACAS conciliation

If an employee wants to bring a tribunal claim, it must first notify ACAS. Following notification, an employee’s time limit to bring the claim will be put on hold,  for up to one month. The aim is to offer an opportunity for pre-claim dispute resolution, which may end in an agreed settlement.

  • Protected discussions

The discussions that take place in order to reach a settlement agreement in relation to an existing employment dispute are usually on a ‘without prejudice’ basis. This means the content of the meetings or discussions are confidential and thus any statements made are protected and cannot be used in a court or tribunal as evidence. As the “without prejudice” status does not apply unless there is an existing legal dispute between the parties, the Government introduced the ability to have a “protected conversation”. This is similar to the “without prejudice” rule but only covers conversations about “unfair dismissal”. However, both provide a basis for the parties to discuss a settlement in the knowledge that their conversations cannot be used in any subsequent unfair dismissal claim.

Negotiating the agreement

An employer and employee will usually discuss and negotiate the terms of the agreement in order to meet a suitable compromise. They should consider the following key terms:

  • Legal fees

Settlement agreements are not legally binding if an employee does not receive legal advice. Typically employers will offer a capped contribution towards the employee’s legal fees. Each party’s legal adviser will be able to advise on the effect of the agreement and may negotiate more favourable terms.

  • Confidentiality and reputation

An employee will generally continue to be bound by any confidentiality clauses in its contract of employment, unless the parties agree otherwise. Parties will often agree to also keep the agreement itself confidential and not disclose its details to third parties, and that neither party will make any derogatory comments about the other.

  • Termination payment

The employer will usually compensate the employee for waiving their right to claim, by making a redundancy payment and an additional ‘goodwill’ payment to the employee. Sometimes this will be a goodwill payment paid in monthly amounts, which will reduce or cease when the employee finds alternative employment. The first £30,000 of a “compensation for loss of employment” payment can be paid tax-free.

  • Other payments

Employers may agree or decide to pay the employee in lieu of notice (PILON) instead of requiring the employee to work the notice period. Questions can arise as to whether the PILON payment should include payments to compensate for the loss of any benefits in kind (such as a company car), for the holiday which the employee has accrued, or in place of a bonus or share scheme. The PILON payment is a taxed payment but the tax treatment of these payments may depend on the contract of employment. 

  • Termination date

It is critical to identify the termination date in the agreement because any payments relating to the period up to the termination date, whether expressed as compensation or otherwise, are likely to be fully taxable unless they arise from discrimination.

  • Tax liabilities

The compensation received under a settlement agreement can often be paid tax-free up to £30,000. However, any payment relating to unpaid wages or holiday pay will be subject to income tax at the employee’s usual rate, and NI contributions from the employer. As HMRC will pursue the employer for unpaid amounts, the employer will often include a clause to confirm the employee is responsible for any further tax and NI contributions and is liable to reimburse the Company in respect of these amounts.

  • References

Employers are not obliged to provide references save in some limited circumstances. Consequently, an agreement by the employer to provide a reference, often in an agreed form,  is typically included in a settlement agreement.

  • Pensions

Any contribution by the employer to a registered pension scheme or an employer-financed retirement benefit scheme is generally free of income tax and NICs, subject to your pension allowance.

How Blaser Mills Law can help?

Blaser Mills Law conducts work for both the employer and the employee and our expert employment team are skilled at negotiating settlement agreements from both sides.

With prices starting from £250 plus VAT, we can help you negotiate the settlement package and advise you on such matters as references, announcements, bonus entitlements, share options, pension payments and benefits.

Our dedicated Blaser Mills Law employment lawyers are available to provide tailored expert advice if you require legal assistance. Please contact James Simpson on 01494 478689 or at or Debbie Sadler on 01494 478671 or at