Some employers apply a contractual clause which stipulates that if the employee fails to give or work the correct contractual notice, then a sum will be deducted from any final payment due equivalent to the period of notice not given or worked. Such a clause was the central issue in Yizhen Li v First Marine Solutions and another where, relying on Clause 12 of the contract, FMS argued that Ms Li had not worked the required notice period after resigning and deducted one month's salary for the shortfall. Clause 12 provided:

“Either the Company or the Employee may terminate the Employee's employment hereunder by notice in writing of not less than one month which may be from time to time adjusted… If an Employee leaves, without working the appropriate notice, the Company will deduct a sum equal in value to the salary payable for the shortfall in the period of notice”.

From a legal perspective a contractual clause can provide for what is called 'liquidated damages', where a pre-determined sum becomes payable if the contract is breached, but such a clause will not be enforceable if it is a 'penalty' clause, i.e. it does not reflect a genuine pre-estimate of the employer's losses and is designed to punish rather than compensate.

The EAT upheld the tribunal's decision that Clause 12 was not a penalty. The EAT accepted FMS' argument that Clause 12 provided for a genuine pre-estimate of loss in the event that an employee did not work her notice. This was because: (i) the longer Ms Li worked during her period of notice, the more the amount of any deduction would be reduced; (ii) the additional costs incurred in replacing her would diminish as the amount of notice worked increased; and (iii) the sum deducted was not excessive.

However, this case should not be viewed as providing 'plain sailing' for the use of such a contractual term. The EAT expressed concern about the way in which Clause 12 was approached and did not want this case to set an 'unfortunate precedent'. The EAT made a number of observations about the construction, interpretation and application of this type of clause [Paragraphs 42 to 47 of the judgment] and employers making use of damage recovery provisions are advised to review the contractual implications, taking legal advice when doing so.

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