A Guide To Settlement Agreements

Accountancy Resources

A Guide To Settlement Agreements

Settlement Agreements
Law Author: Admin


Whilst many employer/employee relationships last a long time and benefit both parties, there are occasions when things do not go as planned and a swift solution is needed in order to sever ties.

In this scenario, a Settlement Agreement can help to avoid a costly tribunal claim and provide both parties with a clean break. In this article, we will discuss Settlement Agreements and explain how they work.

What Is A Settlement Agreement?

When signed by both parties, a Settlement Agreement becomes a legally binding contract that can be used to bring to an end an employment relationship on agreed terms. Alternatively, although less common, Settlement Agreements may be entered to settle a dispute but while the employment relationship remains ongoing. A Settlement Agreement can act as an alternative to employment tribunals where a dispute arises and a claim is made against an employer, for example, unfair dismissal, discrimination, or breach of contract. A Settlement Agreement can prevent the employee from taking formal legal action against their employer.

Settlement Agreements provide an amicable way to sever ties with an employee that allows both parties to move on. It can help the employer to avoid a costly employment tribunal claim while the employee can benefit financially and ensure they receive a job reference when they move on.

When Is A Settlement Agreement Needed?

When a relationship with an employee begins to fail it can provide a significant headache for all the parties and often requires a swift resolution to prevent undue distress to everyone involved. Disputes over allegations of misconduct, bullying, poor performance, pay, working hours, responsibilities, and competition are just some of the causes of disagreements.

An example of an ongoing issue that might lead to a parting of ways and a Settlement Agreement could be a difference in attitudes between two members of staff. A clash of personalities could create arguments between the two employees which could spread around the work environment and impact general morale.

Although an employer can take steps to encourage the two parties to work together and to resolve their issues, such as mediation, interventions, and more – it might not always work. In some cases, it may be easier for all involved to part ways with either one or both members of staff, rather than drag out the issue and incur time and stress on everyone involved.

Another example of where a Settlement Agreement might be needed is when an employee wishes to make a claim against an employer, for example, unfair dismissal, breach of contract, or discrimination. Using a Settlement Agreement can be an effective method of avoiding employment tribunals. However, Settlement Agreements cannot be used to avoid claims relating to pensions or personal injury claims.

A Settlement Agreement can also be used to settle a disagreement with an employer where the working relationship continues.

What Are The Usual Terms Of A Settlement Agreement?

Each Settlement Agreement will be tailored according to its own scenario but it will normally cover at least some of the points set out below.

The reason for termination

This could be due to poor performance, poor attendance, or misconduct. However, any reason other than compulsory redundancy may affect certain insurance policies. It is important that an employer is clear about the reasons for termination throughout the process of bringing about a Settlement Agreement although it is not always necessary to state the reason for termination within the Settlement Agreement.

Arrangements prior to termination

These may include the specific amounts of money the employee will be paid in salary and any outstanding expenses, bonuses or commissions, etc.

Holiday entitlement

An employee might have accrued holiday that they have not yet used and may be entitled to be paid for it as part of their termination arrangements.

Termination payment

Also known as an ex-gratia or a compensation payment, this is an amount of money that is paid by the employer to the employee as an incentive to agree to the terms of a Settlement Agreement.

It is important that both the employer and the employee seek legal advice when negotiating these terms in order to receive the best outcome financially, which also means being aware of any tax implications.

Legal fees

Although not obligatory, it is common in a Settlement Agreement for there to be a clause stating that the employer will contribute towards the employee’s legal fees. This may be in the employer’s interests as it encourages the employee to obtain proper advice on their situation which may encourage them to enter into the Settlement Agreement.

Gardening leave

While an employee may not be required to come to work during their notice period, they will still remain an employee until the termination date. Gardening leave can be useful for employers as it prevents the employee from competing during their notice or from contacting clients. In most situations, employees are entitled to be paid as normal during a period of gardening leave. However, employees may not wish to be kept out of the job market during this time.

Payment in lieu of notice (PILON)

Alternatively, an employer may prefer to pay an employee for the amount of time their notice period in their contract would have been– known as a payment in lieu of notice. This is often the case where the employment is brought to an end through a Settlement Agreement.


Together with financial arrangements, an employer might also provide an employee with a written reference and agree on terms as to how they will respond to reference requests from potential new employers. This can be invaluable for an employee, especially in a situation where the relationship ended acrimoniously and they may well rely on a positive reference to secure new employment.

Restrictive covenants and confidentiality

During their time with an employer, employees are likely to have access to confidential information, knowledge, contacts, and other assets which could cause damage. Employers may ask the employee to refrain from certain actions, such as poaching fellow employees, disclosing confidential information or intellectual property, or soliciting the company’s customers or vendors through the use of a restrictive covenant.

Restrictive covenants should be drafted into an employee’s contract prior to entering into a Settlement Agreement in order to be valid; however, an employer may sometimes offer additional payment in return for an employee agreeing to additional covenants.

Read more about restrictive covenants in our full guide by clicking here.

Non-derogatory clause

A Settlement Agreement might also include an agreement for both parties to refrain from making or publishing negative or derogatory comments about each other in public. This can on occasion be hard to enforce, especially for large employers for whom it might be an unrealistic request. However, an alternative route might be to phrase the clause in a way that requires both parties to endeavour to do so.

Return of property

An employer might request that any company equipment which is not owned by the employee be returned as part of the settlement arrangements. Examples of this might include mobile phones, laptops, or company cars. They may also set a time period for the return of these items.

How Long Does The Process Take?

Once an employee is sent a Settlement Agreement to consider, it is recommended that they have around 10 days to review its terms. Once the terms are agreed between both parties, compensation is then paid within the terms of the Settlement Agreement together with any other financial obligations such as outstanding salary payments, commissions, and holiday pay.

What To Consider As An Employee?

If you are offered a Settlement Agreement by your employer then you should request some time to look over the terms and decide how you wish to respond. 10 days is often recommended which gives you time to look over the terms, discuss with your family, and also seek legal advice (which is compulsory).

Whether you can negotiate any more money than you have been offered will be specific to your situation but requesting more money without understanding what leverage you have maybe risky which is why it is important to seek legal advice as soon as possible.

What To Consider As An Employer?

It is a smart move for employers to present a Settlement Agreement to employees who they suspect might bring a claim against them.

If you expect that an employee has a potential claim and may be considering taking you to a court or an employment tribunal then a Settlement Agreement can provide a resolution that avoids the costly and embarrassing ordeal of litigation.

The scenario which leads you to entering into a Settlement Agreement will have its own particular set of circumstances and it is the duty of your solicitor to take them into account when drafting your Settlement Agreement.

Our experienced employment law solicitors can draft the Settlement Agreement for you and provide you with clear advice on ensuring a smooth parting of ways and reducing the need for litigation.