Our Guide To Settlement Agreements

A settlement agreement is a legally binding contract between an employer and an employee that settles employment claims, usually when the employment is ending. The employee normally agrees not to bring claims against the employer in return for a payment and other agreed terms. Settlement agreements are used in the same way in Scotland and England.

Why are settlement agreements used?

Most employment rights cannot be signed away in an ordinary contract. A settlement agreement that meets the legal requirements is one of the few ways an employee can validly agree not to bring statutory claims, such as unfair dismissal or discrimination, in an employment tribunal. The other common route is a COT3 agreement made through Acas.

The employee usually receives a payment, and the employer gains certainty and avoids a tribunal claim. Negotiations usually take place on a without prejudice or protected conversation basis.

Independent legal advice

For a settlement agreement to be valid, the employee must receive advice from a relevant independent adviser, such as a solicitor, on the terms and effect of the agreement, and in particular its effect on their ability to bring claims in an employment tribunal. The adviser must have insurance or an indemnity covering the risk of a claim against them.

Our settlement agreement advice for employees covers this process.

What legal requirements must the agreement meet?

The law says a settlement agreement must:

• be in writing
• relate to particular complaints or proceedings
• confirm that the employee has received advice from a relevant independent adviser
• identify the adviser
• state that the statutory conditions for settlement agreements have been met

Acas has also published a Code of Practice and guidance on settlement agreements, which explain the process and suggest that employees should normally have at least 10 calendar days to consider the terms.

Negotiating the terms

The adviser will help the employee decide whether the offer is reasonable by weighing any potential claims, their value and chances of success against the cost, time and stress of a tribunal claim, where each side usually pays its own legal costs.

It is often possible to negotiate a better offer. From 1 January 2027, the qualifying period for unfair dismissal will fall from two years to six months and the cap on unfair dismissal compensation will be removed, which may affect how both sides value a claim. Our article on negotiating a severance package has practical tips.

Tax

The first £30,000 of a genuine termination payment can usually be paid free of income tax and employee national insurance contributions. However, payments for notice, salary, holiday pay and bonuses are taxed in the normal way. Our article on when a termination payment is fully taxable explains the rules in more detail.

Legal fees

Employers usually contribute to the employee’s legal fees for advice on the agreement. If the adviser’s fees are higher than the contribution, the employee will usually pay the difference unless the employer agrees to increase it. We explain more in our article on who pays the legal costs of a settlement agreement.

References and announcements

An agreed reference can be negotiated and attached to the agreement, with the employer agreeing to give it to prospective employers. Many employers only give a factual reference confirming dates of employment and job title, and this can also be agreed.

Confidentiality clauses

Most settlement agreements include a confidentiality clause, sometimes called a non-disclosure agreement or NDA. This usually stops the employee from disclosing the terms of the agreement, and sometimes the circumstances of their departure. There are normally exceptions allowing disclosure to immediate family, professional advisers and where required by law. Employees are also often allowed to tell future employers why they left.

There are limits on what a confidentiality clause can do. It cannot prevent a worker from making a protected disclosure, and since 6 April 2026 the whistleblowing protections have expressly covered reports of sexual harassment.

It also cannot stop someone reporting a crime to the police. The Employment Rights Act 2025 will also make confidentiality clauses void to the extent that they stop workers speaking about harassment or discrimination, although the date this comes into force has not yet been confirmed.

Not saying negative things

Employers often ask employees to agree not to make negative or damaging comments about the business, its staff or its directors. Employees can ask for a similar promise in return. Because an employer cannot easily control what all its staff say, this is usually limited to the employer instructing certain named individuals not to make negative comments about the employee.

Restrictive covenants

Restrictive covenants in the employment contract, such as restrictions on working for a competitor, contacting clients or recruiting staff for a period after leaving, may continue to apply and are often referred to in the settlement agreement. As part of the negotiations, the employer might agree to remove or relax some of them.

Bonuses and share awards

If the employee expects a bonus, or holds share options or other awards that vest at a later date, the agreement should deal with them clearly. Employees leaving through redundancy or by agreement are often treated as good leavers, so their awards may continue to vest or vest early, but this depends on the scheme rules.

Advice for employers

Employers proposing an agreement should make sure it meets the legal requirements and that any confidentiality terms comply with the law. Our settlement agreement service for employers can help.

If you have been offered a settlement agreement or are thinking of proposing one, book a free 30-minute consultation with our employment solicitors or call 0141 471 9166.