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The Pros and Cons of Settlement Agreements for Small Businesses

In this article, we're taking a look at the pros and cons of settlement agreements for small businesses.


Image source: Pexels

January 18 2024 - When you need to remove a member of staff from your employ - for whatever reason - it's important to protect your company from potential legal wrangling and reputational harm. Settlement agreements can often help here but, are they always the best option?

In this article, we're looking at the pros and cons of settlement agreements for small businesses.

What is a Settlement Agreement?

Sometimes known as a compromise agreement, a settlement agreement is a contract between an employer and an existing employee. These usually come into play in the event of a dismissal due to poor performance or conduct but can also be used in the case of redundancy or ill-health.

In most cases, these agreements detail a financial payment by the company in return for the employee waiving their right to a tribunal or other types of legal recourse which may prove costly - both financially and reputationally - for the business. Employers will also occasionally use these agreements as a way of bypassing the usual disciplinary process required, in order to dismiss an employee.

The Pros of a Settlement Agreement

There are a number of positives to a settlement agreement, and these include:

Time Saving

An employer will sometimes find themselves in a position where an employee is clearly not up to the job and, as a result, may be costing the company money and dragging others down.

In normal circumstances, an employer would need to follow a dismissal procedure which may include verbal and written warnings before they are able to dismiss the employee.

This can take weeks if not months and can be harmful to the business. A settlement agreement can allow the employer to bypass this process, thereby saving a considerable amount of time.


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Reputational Integrity

When an employee triggers a tribunal or other legal activity against an employer it will, in many instances, attract media attention - a source of negative publicity which a small business can ill-afford.

By opting for a settlement agreement, the business is able to control and limit any reputational harm caused by the employee 'going public' through litigation or by venting on social media.


If an employee feels aggrieved about a dismissal or redundancy, they may be tempted to 'spill the beans' on activities within the company; causing potential embarrassment or harm to the business. A settlement agreement can include a confidentiality clause to prevent this.


Image source: Pexels

The Cons of a Settlement Agreement

As we've mentioned, a settlement agreement might not always be a suitable option and, here, we'll run through some of the potential downsides:

Loss of Legal Precedents

In the UK, employers and employees are protected by precedents and statutory rights to ensure that they are treated fairly. In some cases, a settlement agreement may, therefore, be seen as an unfair or underhand way of dealing with a troublesome employee.

Additionally, there is always the chance that the employee will breach the agreement at some point. Leaving the employer with a choice between putting up with the consequences or undergoing expensive legal action to have the compensation payment refunded.


Often, the compensation payment made to the employee will be considerably higher than the usual payments which may include redundancy pay or simple payment of outstanding salary and holiday entitlement.

Employee Relationships

Firstly, the employee is under no obligation to agree to and sign a settlement agreement which means that the normal disciplinary process needs to be followed. Needless to say, this can cause an awkward or combative atmosphere in the workplace for the remainder of that person's employment.

Additionally, if a settlement agreement is used to get rid of an employee by bypassing the disciplinary process - particularly in the case where the employee has breached no rules - this can cause other employees to feel unsettled as some may fear that they may be next.

Legal complexity

While a settlement agreement might save an employer time in some cases, in others the opposite is true. These agreements can be complex and both parties will usually hire a solicitor to fight their corner.

This can result in a lot of legal to'ing and fro'ing and lengthy negotiations until a mutual resolution is met - which can ultimately cost a significant amount of money in legal fees.

Weighing up the pros and cons of settlement agreements...

When it comes to making a decision about a settlement agreement, it's important to weigh up the pros and cons to ensure that it's the best option for all concerned.

While this may be a good - and necessary - solution in an individual case, it's not recommended that a business gets into the habit of using this as a way of getting rid of unpopular employees or those who aren't a good fit as this can ultimately lead to reputational damage in the long run.



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