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What Is a Settlement Agreement? A Guide

A settlement agreement is a legally binding contract between an employer and an employee. It typically ends the employment relationship and waives the employee’s right to bring certain legal claims against the employer in an employment tribunal or court, usually in exchange for a financial payment.

When and Why Are They Used?

Settlement agreements can be used in lots of different situations to bring an employment relationship to an end. They are a reliable way to facilitate a clean break between the parties on agreed terms. They are commonly used:

  • To avoid a lengthy grievance or disciplinary process
  • In redundancy situations
  • To resolve disputes (e.g. discrimination, unfair dismissal)
  • Where there has been a relationship breakdown
  • When both parties agree it’s best to part ways amicably

They are entirely voluntary—you don’t have to accept the agreement.

What Must Be Included for It to Be Legally Binding?

The agreement must be in writing and must clearly state which claims are being waived or compromised. You must get independent legal advice from a qualified legal adviser (often paid for by the employer). Your Adviser must be identified in the agreement and must hold professional indemnity insurance.  The agreement must state that it complies with the applicable legislation which governs the types of claims being settled by the agreement.

What Might You Receive?

There must be some form of consideration or benefit flowing to the employee under the terms of the agreement, in return for waiving their legal rights to pursue a claim against their employer.

Usually, consideration is financial, in the form of compensation being paid to the employee which exceeds their statutory minimum entitlements. Occasionally, consideration may be non-financial, for example, provision of a reference, or an agreement to make a payment in lieu of notice rather than require an employee to work their notice.  

Common payments include:

  • Salary
  • Notice Pay
  • Statutory Redundancy Payment
  • Termination Payment – Often tax-free up to £30,000.
  • Accrued Holiday Pay
  • Outstanding expenses, Bonuses or Commission
  • Legal Fees – Employers typically contribute £500+VAT towards the employee’s legal fees.

Common Clauses to Watch For

Settlement agreements can be quite lengthy and in addition to clauses dealing with the termination of the relationship and compensation payable, there will be a number of other common clauses, such as:

Waiver of Claims: This identifies the legal claims you are waiving

Confidentiality: This will stipulate who (if anyone) you can disclose the terms or existence of the agreement to

Non-disparagement: This will prohibit you from making negative or derogatory remarks about your employer or individuals within the business

 Restrictive covenants and confidential information: These clauses will reaffirm clauses in your employment contract to safeguard the company’s confidential information and prevent you from competing with the company or soliciting its customers.

Negotiating a settlement agreement

Can You Negotiate?

Yes! You are under no obligation to accept the settlement agreement and can negotiate the terms if you believe there are good grounds to do so. You may be able to negotiate the termination date, the termination payment, the wording of a reference or internal announcement, the scope of confidentiality, a waiver of any contractual post termination restrictions etc.

Why do I need legal advice?

It is a legal requirement, and the agreement will not be binding unless you have received advice on the terms from a qualified adviser. Additionally, there is a power imbalance between you and your employer and it important to ensure that you are receiving the correct financial legal entitlements and that it is beneficial for you to sign the agreement. Your adviser will also ensure that the agreement is fair and balanced and that some of the obligations you have are also reciprocated by your employer, for example, non-disparagement obligations.

How does it work in practice?

You need to instruct a qualified employment law solicitor who will require various information from you to enable them to review your draft agreement, for example, the reason why you have been given the settlement agreement, a copy of your employment contract and last payslip, confirmation of your job title, notice period, whether you have any company property to return, length of service etc. Your solicitor will review the agreement based on the information you provide and check the financial calculations. It is likely the agreement may require some amendments or corrections, and they will liaise with your employer to facilitate these changes. Once your solicitor is in receipt of the final agreement, they will advise you on the terms and effect of the agreement and usually, both you and your solicitor will need to sign the agreement.

Before You Sign: A Checklist

  • Have you received independent legal advice?
  • Do you understand what claims you’re waiving?
  • Are you happy with the financial terms?
  • Have you clarified tax implications?
  • Are you satisfied with the reference and confidentiality clauses?
  • Have you returned all company property?