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Compromise early to avoid redundancy headaches


As some employers have learned the hard way, botched redundancies can wipe out any payroll savings they had hoped to make, through the cost of going to tribunal and eventual payouts to wronged workers. Therefore, when financial certainty is the watchword of the day, it is perhaps understandable that many businesses are turning to “compromise agreements” as a means of settling disputes early, for example, over pay or redundancy terms. But negotiating the structure of any such agreement can be tricky, if it is to work for both sides and comply with the legal requirements necessary to act as an effective waiver of employment claims. 

The terms of a compromise agreement must always be tailored to the individual circumstances and consideration given to how best to present a exit package in order that it is attractive to the employee.   

It is often mistakenly thought that the first £30,000 of any termination payment is tax free. How much, if any, will be taxable depends on the nature of the payment. Any payment flowing from the contract of employment, such as salary, bonus, and accrued holiday, will be taxable. However, both statutory and non-statutory redundancy payments will be tax-free up to the £30,000 limit. 

Even here though, a non-statutory scheme is likely to be scrutinised closely, to ensure it is genuinely made to compensate for loss of employment through redundancy. Advance clearance can be sought from HMRC to help provide certainty.   

Other tax-free benefits that can be provided include outplacement services and re-training provision. In an increasingly tight job market, these types of service are likely to take on added importance for individuals whose employment is being terminated. To be tax-free, certain conditions must be met. For example, the employee must have at least two years’ service, the counselling must be to enable them to find employment – or to set up as self-employed – and it must be a service generally available to employees or former employees.   

More generally, an individual must have received independent legal advice on the terms and effect of the compromise agreement prior to signing, if it is to be valid. Making provision for the employee’s legal fees to be met by the employer is, therefore, common. This benefit is also a tax-free benefit, provided payment is made directly to the solicitor by the employer and the legal costs have been incurred solely in connection with the termination of employment.   

More contentious is the position of payments in lieu of notice (PILON). Inclusion of such a payment as part of a termination package will be taxable if there is a PILON clause in the contract of employment. Even if there is no such clause, but it has become customary to provide PILON to employees on termination, this will again be taxable.   

HMRC often shows great interest in compromise agreements, so it is essential proper consideration is given to the status of a payment, to ensure hidden tax liabilities do not arise at a future date. For this reason, the tax indemnity clause can often be a particular focus for negotiations.   

Other potential elements of a package which would cost nothing in monetary terms include the carefully worded apology, or the commitment to provide an agreed reference. However, care should be taken to ensure that a reference is fair and accurate. It should not be embellished simply to encourage the employee to “go quietly”, as a claim from a future employer about misrepresentation or negligence could follow.   

As well as determining the package which should be on offer, the compromise agreement must be drafted in such a way as to ensure the organisation is protected, should an employee subsequently attempt to renege on the agreement by bringing an employment tribunal claim.   

It is common to include some provision requiring the employee to repay the termination payment, if they breach the agreement. However, to avoid allegations that the repayment clause is a penalty and therefore void, it may be appropriate to give thought to whether the amount of the repayment is a genuine estimate of the employer’s potential loss.   

Alternatively, particularly in a situation where an employee is being asked to sign up to restrictive covenants within a compromise agreement, staggered payments may be an alternative to a lump sum, to encourage compliance.   

As a final consideration, it may be wise to ask the employee to confirm that, at the time of signing, he or she is not aware of any circumstances constituting gross misconduct, which would have entitled the employer to terminate employment without notice. If payment is conditional on this undertaking and some heinous act of misconduct is discovered, the employer could withhold payment without being in breach of the agreement.   

While compromise agreements certainly entail a degree of thought, planning and possibly slightly higher costs, the investment can avoid a more confrontational outcome down the line. And, particularly in these unsteady times, that is a small price to pay for predictability.



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