What are Settlement Agreements and When Should You Use Them?

A ‘settlement agreement’ is a legally binding document between an employer and an employee. It allows an employer to end employment by making the employee a payment.

The payment needs to be more than the employee would be entitled to under their contract. As an example, the company could agree to pay someone their notice period and accrued holiday (contractual entitlements) AND an additional £5,000.

In return for that payment, the employee waives their right to take further action in relation to their employment.

In short, when the employee walks away having signed the agreement, the employer knows that the matter is closed. They know that the employee will not bring an employment tribunal claim against them.

Prior to settlement agreements there were ‘compromise agreements’. The challenge with compromise agreements were that they were never recognised as being legally enforceable. This meant there was a risk that the employee would sign, take the money and bring a claim anyway.

Settlement agreements address this as they are legally recognised and do achieve the desired outcome of preventing an employee bringing a claim. For them to be legally binding, however, an employer needs to follow the correct procedure when issuing, negotiating and agreeing the settlement agreement.

Settlement agreements are useful when dealing with the following situations.

Dealing with a senior employee

Taking a senior employee through a disciplinary or redundancy process can be very difficult and result in a lot of bad feeling. It’s usually cleaner and more amicable for both parties to agree to enter into a settlement agreement.

Dealing with on-going low-level poor employee performance or poor fit

There are times when you have an employee who really doesn’t do anything that’s so bad as to warrant disciplinary action but they just take up a disproportionate amount of management time, deliver just about adequate results and can be disruptive. Here, paying to resolve the situation can make financial sense and a settlement agreement can be a good option.

You’ve got it wrong

No company is perfect and there are times when you find that you’ve done something wrong. It’s rarely intentional but these things happen. When you’ve got it wrong you can either wait to see if the employee brings a claim or you can try to reach a settlement agreement with the employee in recognition of your error.

When there’s a dispute

There are times when a situation arises that can’t be fixed. An example would be where there’s a breakdown in the relationship between an employee and their manager. You can wait for the employee/the manager to resign. However, looking to end employment of one party through a settlement could be an option.

When you want to offer enhanced redundancy pay

If you want to offer an individual an enhanced redundancy payment then using a settlement agreement can be a good option. By using a settlement agreement you don’t create a custom and practice in relation to offering an enhanced redundancy payment. You retain flexibility to revert to statutory redundancy.

There are lots of other scenarios in which settlement agreements are useful. However, it’s important that you don’t start to see them as an easy way out. Not all employees are interested in entering into the agreement. Additionally, you can’t always reach agreement on a financial settlement figure. Also, there are strict legal requirements from the agreement and you need to follow the correct process before you even have the conversation.

A settlement agreement has a number of requirements that need to be met in order for it be legally binding. There are also some steps to follow before commencing the discussion.

If you do not have HR expertise in-house, please consult with an external professional to guide you through the process to ensure that you can achieve your desired outcome. This definitely isn’t an area of employment law to try to navigate on your own.

We at LighterHR would of course also be happy to help you with any settlement agreement situations, so when you are at the point of wanting to enter into such discussions with an employee, give us a quick call and we will gladly ensure that you go through as smooth of a process as possible.