Advantages and Disadvantages of Settlement Agreements for Employers in England and Wales

Summary

1. Settlement Agreements are legally binding contracts that formally document the terms upon which the employment relationship ends.
2. They typically include terms on notice pay, compensation, confidentiality, and references.
3. Employees must receive independent legal advice before signing to ensure the agreement is legally enforceable.
4. Settlement Agreements protect employers by preventing most future Employment Tribunal claims.
5. For expert advice or to review a Settlement Agreement, contact Askews Legal on 02476 231000 or email enquiries@askewslegal.co.

For employers in England and Wales, a settlement agreement offers a strategic way to end disputes efficiently and protect business interests. They are also a clean and efficient way to exit employees from the business, even where there is no existing dispute, for example, in a redundancy situation. Most importantly, in most cases, they remove the risk of an unfair dismissal claim being brought against your business.

Yet, while settlement agreements provide many advantages, they also carry legal and reputational risks if poorly drafted.

What is a Settlement Agreement?

A settlement agreement is a legally binding contract that is used to formally record the terms upon which an employment relationship ends. The employee waives their right to bring an unfair dismissal claim (or any other employment related claims) in the Employment Tribunal in exchange for a ‘settlement’ (typically financial, but it can include other consideration such as a reference or outplacement support).

Under English law, a valid employment settlement agreement must:

• Be in writing.
• Identify the specific complaints or proceedings being settled.
• require he employee to take independent legal advice on the terms.
• Name the adviser, confirm their insurance cover, and state that the legal conditions have been satisfied.

Employers may propose a settlement agreement during redundancy, performance, or disciplinary processes, or in cases where a dispute develops, to achieve a clean, legally secure outcome.

Advantages of Settlement Agreements for Employers

Legal Certainty and Finality

The primary benefit for employers is finality. A well-drafted settlement agreement ensures that once signed, the employee cannot bring future claims relating to their employment or termination. This protects the business from unexpected legal action and reputational damage.

Cost and Time Efficiency

Employment Tribunal proceedings can be lengthy and costly. By using a settlement agreement, you, as an employer, can reach closure quickly, saving legal fees and management time. This means you can focus on business operations instead of stressing about an ongoing dispute.

Confidentiality Clauses

Confidentiality clauses are one of the most valuable features for employers. They prevent employees from disclosing sensitive information about internal disputes, financial settlements, or allegations that could harm the company’s reputation. However, a confidentiality clause cannot prohibit a former employee from making a protected disclosure (whistleblowing) under the Public Interest Disclosure Act 1998 including reporting criminal behaviour or sexual harassment.

Reduced Reputational Risk

By resolving disputes privately, employers can protect brand reputation and employee morale. Settlement agreements avoid the publicity of tribunal hearings, which are often reported in the press or shared online.

Main Disadvantages and Legal Risks for Employers

Enforcement and Drafting Errors
A poorly drafted settlement agreement may be unenforceable. Ambiguous language, missing statutory wording, or unclear payment provisions can invalidate the agreement. Employers should always seek advice from an experienced Settlement Agreement Solicitor to ensure that the document meets the legal requirements for settlement agreements in England and Wales.

Potential for Perceived Pressure or Coercion
While employers can propose settlement agreements, they must avoid any suggestion of undue pressure. Offering a “take it or be sacked” deal or imposing unrealistic deadlines may expose the business to allegations of improper behaviour. The Acas Code of Practice on Settlement Agreements advises a reasonable period, usually at least ten days, for employees to consider the offer.

Tax and Payroll Risks
Incorrectly handling payments under a settlement agreement can create tax liabilities. Employers must ensure that notice pay, bonuses, and holiday pay are taxed appropriately through PAYE. Ex gratia payments up to £30,000 may be tax-free, but errors in categorisation can result in HMRC liabilities.

Confidentiality and Public Interest Limits
Although confidentiality clauses benefit employers, they cannot override the employee’s right to make protected disclosures under whistleblowing law or to cooperate with criminal or regulatory investigations..

Reputational and Employee Relations Concerns
Settlement agreements can sometimes be perceived negatively by remaining staff. If used frequently, they may signal deeper issues in workplace culture or management practice. Transparency about fair treatment and internal processes can help maintain trust.

Safeguards and Best Practice

To ensure that settlement agreements are valid and enforceable, employers should:

1. Seek Specialist Legal Drafting – Each agreement should reflect the specific circumstances and be reviewed by an Employment Law Solicitor.
2. Allow Reasonable Timeframes – Employees should have sufficient time to consider the offer and obtain independent advice.
3. Maintain Clarity and Fairness – Terms should be written in plain English, avoiding ambiguity or overly complex clauses.
4. Address Tax and Payroll Obligations – Ensure compliance with HMRC rules on termination payments and deductions.
5. Retain Confidentiality Within Legal Limits – Use confidentiality clauses responsibly, ensuring they do not infringe whistleblowing rights.

Conclusion

Settlement agreements remain one of the most effective tools for employers in England and Wales to manage risk, achieve closure, and maintain confidentiality. They save time, reduce costs, and provide certainty, but only when drafted and executed properly.

Employers must weigh the advantages and disadvantages of settlement agreements carefully, ensuring each agreement complies with statutory requirements and aligns with ethical best practice.

Frequently Asked Questions

What is the difference between a settlement agreement and a compromise agreement in UK law?
They are the same. The term “compromise agreement” was replaced by “settlement agreement” in 2013, but both refer to legally binding contracts that end disputes and prevent future claims.

Do all settlement agreements include confidentiality clauses?
Most do, but they are not compulsory.

Can an employer require an employee to sign a settlement agreement?
No. The agreement must be voluntary. Employers may propose one, but the employee must have time and opportunity to take independent legal advice before deciding and is free to reject this course of action.

What happens if an employee breaches a settlement agreement?
The employer can pursue a claim for breach of contract and seek damages or repayment of any settlement sum, depending on the terms of the agreement.

Are there tax implications for employers under settlement agreements?
Yes. Employers must correctly identify taxable elements, such as notice pay or bonuses, and apply PAYE. Ex-gratia payments within the £30,000 exemption must be clearly separated in the agreement.

If you require legal advice concerning Settlement Agreements, please call our office today on 02476 231000 or email enquiries@askewslegal.co

Please note that this article is for information purposes only and does not constitute legal advice.