Compromise Agreements - All You Need To Know

A “Compromise Agreement” is the only way in which Employees and Employers can legally settle a dispute arising under a contract of employment.

Section 203 of the Employment Rights Act 1996 ("ERA") stops an Employer in the UK from forcing an Employee to sign away their legal rights except where a Compromise Agreement is used.

Negotiating a Compromise Agreement is often straightforward but in some cases can prove to be more difficult. For instance, the employee may put a value on his or her claims above the amount the Employer is prepared to offer under the Compromise Agreement even though such amount may be above the employee's strict legal entitlement.

Compromise Agreements - The Requirements

There are strict conditions as to how a Compromise Agreement must be drawn up if it is to be legally binding. These are:

the compromise agreement must be in writing;
it must relate to a particular complaint;
the employee or worker must have received advice from an independent solicitor as to the terms and effect of the proposed compromise agreement in particular, its effect on his/her ability to pursue his/her rights before an Employment Tribunal;
the adviser must have professional indemnity insurance;
the compromise agreement must identify and be signed by the adviser;
and the agreement must state that the conditions regulating Compromise Agreements under the Act are satisfied.

It is also very important that the employee should get truly independent advice on all aspects of the compromise agreement otherwise it may be open to either party to challenge the validity of the compromise agreement later in court.

Compromise Agreements - What to Look Out For

Care must be taken when drafting Compromise Agreements to specify all of the possible claims that an employee is being asked to compromise. These will include claims under contract or under statute law. If the Compromise Agreement does not make this very clear it will not be in full and final settlement of all such claims.

It is also important that the Compromise Agreement is properly worded to deal with issues relating to continuing obligations such as confidentiality as well as more mundane ones such the return of a company car.

Whilst an Employer is not legally required to do so, the usual practice is to offer to make a contribution to the employee’s legal costs for taking such advice.

Compromise Agreements must be expressed as being "Without Prejudice and Subject to Contract" to prevent employees and employers referring to them if the dispute between the parties cannot be settled using a compromise agreement and proceeds to litigation.

Why Should An Employee Sign An Compromise Agreement?

There is no incentive for an Employee to sign a Compromise Agreement unless either it settles claims that the employer may otherwise have against the Employee or the Employer is offering a payment in full and final settlement of claims which is more generous than the employee’s strict legal entitlement.

Typically, an Employer will use a Compromise Agreement when offering an enhanced redundancy package to it’s employees part of which includes an ex-gratia payment.

Tax on Termination Payments and the ex-gratia payments

Unless you are careful tax will be payable on termination payments. However under the Income Tax (Pensions & Earnings) Act 2003, termination payments up to £30,000 can be made tax-free if properly recorded in the Compromise Agreement, but great care needs to be taken since elements of an employees pay which are owed under their contract of employment cannot be paid free of income tax and for which National Insurance will also be due under the terms of the contract of employment cannot be paid without first deducting Income Tax and National Insurance.

For example holiday pay and pay in lieu of notice can be taxable. These latter payments can be a source of considerable concern to both employers and employees.

Compromise Agreements - Other Common Issues

There are often other employment law issues that need to be addressed in the compromise agreement such as pension rights and these issues usually require advice from a specialist solicitor experienced in drafting and negotiating compromise agreements. Other questions that commonly arise in relation to compromise agreements involve dealing with bullying or discrimination, what happens if the compensation is not paid or is paid late, do senior executives or directors need a compromise agreement, what to do to ensure proper legal enforcement of a compromise agreement, and how do compromise agreements relate to unfair dismissals and redundancy situations.

If you have an Employment Law question or concern which is not related to a compromise agreement please contact us for a fixed fee consultation and we will be pleased to provide you with our expert guidance.

Compromise Agreement Advice by Silverman Sherliker, Solicitors.

Regulated by the Solicitors Regulation Authority