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Under a 'Settlement Agreement' the employer usually offers to pay the employee the total amount due under the employment contract (wages etc.) plus a voluntary amount known as an ex gratia payment in exchange for certain undertakings by the employee. The law relating to compromise agreements which are now known as settlement agreements arose as a result of the Trade Union Reform and Employment Rights Act 1993. In the case where an employer and an employee mutually agree to terminate a contract of employment, there needs to be an agreement to cover the issues arising both immediately and in the future.

A settlement agreement is intended to be a binding legal contract between the employer and the employee and should be beneficial to both parties. Prior to entering into a settlement agreement, an employee must receive qualified legal advice which is normally paid by the employer. The employee cannot waive the right to seek independent legal advice from a settlement agreement solicitor, qualified lawyer, a qualified trade union official or a qualified advice centre worker. An employee has the right to attempt to renegotiate the terms of any agreement presented by the employer. Nothing is final or legally binding until the employee has received qualified legal advice and signed the agreed agreement.

If a Payment in Lieu of Notice (PILON) exists in your original contract of employment, then your compensation under the settlement agreement is likely to be taxable, as it is considered income payable under the original employment contract. If no PILON exists, money due under the agreement is not considered income and you don’t have to pay tax on it unless the amount exceeds the tax fee limit.

A settlement agreement states exact amounts of compensation due to the employee; whereas making an application to an Employment Tribunal does not guarantee any specific amount until judgement.

The courts have ruled that “blanket agreements”, wherein the employee waives all rights, are not binding, so the settlement agreement must be detailed with exact statements, such as:

In order for the settlement agreement to be considered a full and final arrangement, it must contain the following elements: