Settlement Agreements: Your Rights and What to Look For
A settlement agreement (formerly called a 'compromise agreement') is a legally binding contract between you and your employer. In exchange for a payment, you agree to waive certain employment claims. Settlement agreements are very common when employment is ending, but you must take independent legal advice before signing, and the payment offered is often negotiable. This guide explains what you need to know.
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What is a settlement agreement?
A settlement agreement is a contract that ends a dispute or potential dispute between you and your employer. Key features:
- ✓It waives your right to bring specified employment claims against your employer
- ✓In return, your employer makes a payment, either a severance payment, redundancy payment, or a combination
- ✓To be legally valid, you must receive independent legal advice from a qualified adviser (usually a solicitor)
- ✓The adviser must sign a certificate confirming they advised you, without this, the agreement cannot waive your statutory rights
- ✓Once signed, the agreement is usually binding and you cannot reverse it
- ✓Settlement agreements are voluntary, you do not have to sign one if you do not want to
What should a settlement agreement include?
A standard settlement agreement will include:
- ✓The financial payment, the total amount being paid, broken down by type (ex-gratia payment, PILON, holiday pay, redundancy pay)
- ✓Which claims are being waived, the agreement will list specific statutory claims (unfair dismissal, discrimination, etc.) that you are giving up
- ✓A reference provision, agreed wording for any reference your employer provides
- ✓Confidentiality clause, typically preventing you from disclosing the terms
- ✓Non-disparagement clause, preventing you from making negative public statements about the employer
- ✓An agreed termination date
- ✓Confirmation that any restrictive covenants in your contract remain in force
- ✓Contribution toward your legal fees for taking advice on the agreement
Is the settlement payment taxable?
The tax treatment of settlement payments depends on the nature of the payment:
- ✓Statutory redundancy pay: tax-free up to £30,000 (included in the £30,000 allowance)
- ✓Ex-gratia payments: amounts in excess of what you were contractually owed, tax-free up to a combined total of £30,000
- ✓PILON (Payment in Lieu of Notice): taxable if your contract includes a PILON clause (post-April 2018, all PILON is taxable as employment income regardless of whether contractual)
- ✓Contractual payments (holiday pay, bonuses owed): fully taxable as employment income
- ✓Injury to feelings payments (for discrimination): not subject to income tax
- ✓Total compensation above £30,000: anything over the threshold is taxable
Can I negotiate a settlement agreement?
Yes, settlement agreements are almost always negotiable, particularly the financial amount:
- ✓The initial offer is rarely the final offer, most employers have room to increase
- ✓The stronger your potential employment claim, the more leverage you have to negotiate
- ✓Consider what you could realistically recover at tribunal, this sets a ceiling on what the employer would be willing to pay to settle
- ✓Non-financial terms can also be negotiated: reference wording, leaving date, return of personal items, continuation of benefits
- ✓A solicitor specialising in employment law can advise on what is reasonable and help negotiate on your behalf
- ✓Protected conversations: discussions before a settlement agreement is formally offered may be 'without prejudice', meaning they cannot be used in tribunal proceedings
What happens if you don't sign?
You are not obliged to sign a settlement agreement. If you choose not to:
- ✓Any offer made 'without prejudice' to settle before dismissal cannot usually be used against you in tribunal proceedings
- ✓Your employer may proceed to dismiss you, in which case you can bring an Employment Tribunal claim if the dismissal was unfair
- ✓Your employer may continue the process (e.g. redundancy, disciplinary) without the settlement
- ✓You retain all your normal employment rights, including tribunal rights, if you do not sign
- ✓If you are dismissed after rejecting a settlement offer, you can still pursue an unfair dismissal or discrimination claim
What claims can a settlement agreement NOT waive?
Settlement agreements can only waive claims that are specifically identified in the agreement. There are also some claims that cannot be waived at all:
- ✓Personal injury claims arising after the date of the agreement (future claims based on unknown events)
- ✓Accrued pension rights, you retain rights to any pension already built up
- ✓Any claim that the agreement itself is void (e.g. it was signed under duress)
- ✓Whistleblowing claims relating to disclosures made after the date of the agreement
- ✓Claims arising under criminal law
- ✓Claims relating to latent personal injury claims (which you did not know about at the time of signing)
The independent legal advice requirement
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A Citizens Advice appointment can take weeks. Our free assistant is available 24/7 with no appointment, giving you clear, step-by-step answers about your exact situation, what to do next, and the deadlines that matter.
Need to take action? It can draft a ready-to-send formal letter for you (optional, from £4.99).
England, Scotland, Wales & Northern Ireland.
Frequently asked questions
Do I have to sign a settlement agreement?
No. You are never legally required to sign a settlement agreement. It is a voluntary contract. If you do not sign, you retain all your normal employment rights including the right to bring a tribunal claim if you are dismissed unfairly. Your employer may proceed without a settlement in that case, but the decision to sign or not should be based on proper legal advice.
Is a settlement agreement taxable?
Some elements are taxable and some are not. The first £30,000 of an ex-gratia (non-contractual) payment is tax-free. PILON (payment in lieu of notice) is now fully taxable regardless of whether it is contractual. Accrued holiday pay and bonuses owed are also taxable. Make sure your agreement clearly breaks down each element to ensure the correct tax treatment.
Can I negotiate a settlement agreement?
Yes, almost always. The initial offer is rarely the final one. You have more leverage if you have a strong potential employment claim (discrimination, whistleblowing, pregnancy dismissal). Your solicitor can advise on what would be fair given your specific situation and help negotiate the amount and terms on your behalf.
Do I need a solicitor for a settlement agreement?
Yes, you must take advice from an independent qualified adviser (usually a solicitor) for the agreement to be legally valid. Without their signature on the adviser's certificate, the agreement cannot waive your statutory employment rights. Your employer will usually contribute toward your legal costs, though this contribution may not cover the full cost of thorough advice.
How long do I have to consider a settlement agreement?
The ACAS Code recommends at least 10 calendar days to consider a settlement agreement. Your employer should not pressure you to sign immediately. Use the time to get thorough legal advice, review all the terms, and consider whether to negotiate. If you feel you are being pressured to sign quickly, note this, it could be relevant if the agreement is later challenged.
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