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Many employers seek to enter into a Settlement Agreement (formally known as a Compromise Agreement) when an employee’s contract for employment is terminated.

These are legally binding agreements made between an employer and an employee, allowing for terms to be mutually agreed and for a “clean break” to end the employment relationship, and whereby the employee agrees to waive their right to bring any claim against the employer in return for an agreed sum, or compensation.

If you are an employer letting staff go in the wake of the Covid-19 outbreak, advice from a solicitor is essential if you wish to ensure that you limit the risk of any disgruntled employee bringing a claim against you in the Employment Tribunal.

The benefits of settlement agreements 

One of the biggest benefits of entering into a Settlement Agreement when you are terminating an employee’s contract of employment is that you can agree with the employee, usually in return for an agreed compensatory sum (commonly known as a Termination Payment), that they shall waive their right to bring an Employment Tribunal claim against you. This brings security to the employer in terms of any future liability regarding the employee.

It should be noted, however, that there are two forms of claims for which an employee would not be able to waive their right in respect of, namely any claims relating to accrued pension rights or relating to personal injury (whereby the employee is not yet aware of the injury).

Entering into a Settlement Agreement allows both parties to have a “clean break” from the employment relationship, and allows for certainty between the parties on terms that are mutually agreed. It allows both parties the benefit of departing from the situation without the risk of needing to incur further costs and time if the employee were to pursue an Employment Tribunal claim.

Settlement Agreements can also be a quick and amicable way to conclude a relationship with an employee that has irreparably broken down or to bring about the termination of an employee’s contract if this is desirable to the business.

Potential drawbacks of settlement agreements

One of the potential drawbacks of entering into a Settlement Agreement is the cost of the Termination Payment made to the employee. There are also the costs of the drafting of the Settlement Agreement, and advice to the employee upon the same, both of which are usually borne by the employer. It should be noted, however, that these costs are highly likely to be much less than the costs associated with defending an Employment Tribunal claim.

Further, an employee is under no obligation to enter into a Settlement Agreement and therefore negotiations in this regard may not always be successful.

There is also the impact upon general employee employer relations within the company to consider if Settlement Agreements are too frequently used.

Further considerations

When making a Termination Payment to an employee, employers must be aware of any statutory, or contractual, right that the particular employee may have to a redundancy payment or an enhanced redundancy payment and must ensure that any sum that would fall payable in terms of redundancy is considered.

Employers will also need to be careful of their own liabilities falling due when making any payments to departing employees under the terms of a Settlement Agreement, for example in respect of taxation and National Insurance Contributions.

Making an employee redundant is an alternative way to bring about the termination of an employment relationship, however, you can only make an employee redundant if there is a genuine redundancy situation. This is something which is addressed within my previous article, Redundancy and how to approach it: Advice for Employer.

Contact our Employment Law specialists today to see how we can assist in circumstances where you are looking to dismiss an employee or a group of employees.

The changing of the tide in relation to national insurance contributions (nic) on employee termination payments

At present, and up to 5 April 2020, the charges falling due on Termination Payments in excess of £30,000.00 is limited to income tax only.

However, with effect from 6 April 2020, new NIC legislation will come into effect meaning that any Termination Payment in excess of £30,000.00, chargeable to income tax, will also attract a NIC liability (Class 1A) at 13.8% on any balance of the Termination Payment above £30,000.00.

It should be noted that it is only the employer that will be liable to make this NIC and not the employee, and it will need to be paid and reported to HMRC at the time it arises.

This means that Settlement Agreements with qualifying Termination Payments in excess of £30,000.00 are becoming more costly to employers as they will now be required to pay NICs at 13.8% on the excess of termination payments exceeding £30,000.00.

Employers will need to give consideration to these upcoming changes, and the additional liabilities that will be imposed, when considering making a Termination Payment, under a Settlement Agreement, to an employee.

We offer specialist employment advice for employers across all the sectors, for every sized business and at competitive prices.

We can also offer discounted rates for multiple settlement agreements of 5 or more.


Please contact us using our online enquiry form, call us on 0207 387 2032, or call our employment specialist, Abigail Grace Williams on 0207 387 2032.

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