A settlement agreement (formerly called a compromise agreement) is a legally binding contract between you and your employer that typically ends your employment in exchange for a financial payment and mutual release of claims. Employers use them to achieve a clean break — you get money, they get certainty that you won't bring a tribunal claim. But the power dynamic is almost always tilted: you're being asked to sign under pressure, often with a tight deadline, and the financial offer may be far below what you could achieve at tribunal. Critically, a settlement agreement is only valid if you receive independent legal advice from a qualified adviser — your employer is usually required to contribute toward the cost of this advice. This requirement exists precisely because the agreement involves waiving significant statutory rights.
What is a Employment Termination?
A settlement agreement is a contract governed by section 203 of the Employment Rights Act 1996 (and equivalent provisions in other employment legislation) that resolves an employment dispute or ends an employment relationship. For the agreement to be legally valid, it must: be in writing, relate to a particular complaint or proceedings, the employee must have received advice from a relevant independent adviser, the adviser must have professional indemnity insurance, and the agreement must identify the adviser. When valid, it prevents the employee from bringing most employment tribunal claims covered by the agreement.
Red flags to watch for
ACAS guidance recommends a minimum of 10 calendar days for the employee to consider the agreement. Pressure to sign within 48-72 hours is a red flag that the employer wants to prevent you from getting proper advice.
While there is no legal minimum, £350-500 plus VAT is standard. An employer offering only £200 is signaling they don't want you to get thorough advice.
A well-drafted agreement lists specific claims being settled. A clause waiving 'all claims of any nature whatsoever, whether known or unknown' may be challenged but creates uncertainty for you.
The first £30,000 of a genuine termination payment is tax-free under s.401 ITEPA 2003, but if HMRC later determines part of the payment is taxable, a tax indemnity ensures the employer bears the additional tax, not you.
If the agreement imposes 6-12 month non-compete or non-solicitation restrictions beyond what's in your existing contract, you should receive additional compensation for accepting them.
While reasonable in principle, this can be used to delay payment. The agreement should specify a clear payment date regardless of the property return timeline.
Your legal rights
Settlement agreements are governed by section 203 of the Employment Rights Act 1996, section 147 of the Equality Act 2010, and equivalent provisions in other employment legislation. The agreement must satisfy statutory requirements to be valid: it must be in writing, identify the adviser, and the employee must have received independent advice. If these conditions aren't met, the agreement is void and the employee retains their tribunal rights. Under HMRC rules (s.401-404 ITEPA 2003), the first £30,000 of a genuine termination payment is exempt from income tax (though National Insurance treatment is more complex since April 2020). ACAS provides guidance on settlement agreements through its Code of Practice on Settlement Agreements. Employees have the right to negotiate terms, and walking away from a settlement agreement does not prejudice their right to bring a tribunal claim.
Questions to ask before you sign
- 1What specific claims am I being asked to waive, and are any excluded (such as personal injury or pension rights)?
- 2How is the settlement payment structured — what portion is the tax-free termination payment versus notice pay or other taxable elements?
- 3Does the agreement include a tax indemnity from the employer?
- 4What is the agreed reference wording, and will it be provided to all future reference requests?
- 5Are there any post-termination restrictions beyond my existing contract, and if so, what additional consideration am I receiving?
- 6What is the deadline for payment, and is it conditional on anything?
Disclaimer: This guide is for educational purposes only and does not constitute legal advice. Contract law varies by jurisdiction and individual circumstances. Always consult a qualified legal professional before making decisions based on this information.