Lorna Gibb: Headlines aren't the whole story when it comes to severance

Headlines have drawn attention to a local-authority chief executive who negotiated a settlement that saw him walk away with a lump sum of about 250,000 after just eight months in the job. The cost to the public purse of the settlement is reported to be closer to 500,000, as tax bills and legal fees were also covered. Locals protested against the payout, but the council said it could have paid much more if it had fought a legal battle.

But what the headlines do not always mention are the rights at work of departing employees, including both statutory rights and contractual rights. Significantly, if a contract of employment gives greater rights to an employee than he or she has under statutory law, the contract will apply.

Severance packages and the use of compromise agreements are common features of employment law, and it is important employers learn from the experience of others to ensure a line can be drawn under employees' departure.

In March, the Audit Commission in England conducted a review of severance packages offered to departing council chiefs and found some competent bosses had been laid off needlessly, and those not up to the job had been paid off when they should have been sacked. Costs of severance payments were high, and there can also be indirect costs, with the average cost of payments being 1.8 times the chief executive's annual basic salary.

The report concluded the main reason for the deals was personal differences with elected councillors, rather than poor performance.

A number of issues were identified in the report, primarily relating to councils not following procedures designed to reduce payoffs. This was allied to excessive payments resulting from councils not having thought about this in advance of employing chief executives and not having followed the best procedures to keep costs down.

One of the main recommendations was to give consideration in advance of employing chief executives to "pre-nuptial" agreements setting out the nature of any payment to apply.

Other findings deal with the need not to give grounds for claims for unfair dismissal while negotiating severance, and it was recommended councils should provide awareness training for senior members on aspects of employment law.

Employers are using compromise agreements more and more as a means of precluding future complaints to an employment tribunal in cases where employment has been terminated. This is a legally binding agreement that will usually provide severance payment in return for an employee agreeing not to go to employment tribunal.

The amount of financial settlement will usually include a number of different elements principally dealing with unpaid salary, holiday pay, notice pay, redundancy pay and compensation for loss of office.

It is important for tax purposes these are identified separately. If any part of the settlement is classed as "earnings", it will be taxable, although payments made as compensation and redundancy pay come under the current 30,000 tax-free limit.

The attraction of a compromise agreement is, if it is complied with fully, employers can be assured a future claim will be avoided. These agreements can also be used to provide confidentiality, both in respect of the employer's business affairs and any trade secrets, and, likewise, might confirm any post-termination restrictive covenants to which employees are already bound.

For employers and employees, the termination of a contract is often not straight-forward and care must be taken in drafting terms and conditions of employment in order that foreseeable eventualities are taken into account when employment begins. Failure to do so can result in costly payouts and reputational damage and the criticism levelled at local authorities might equally be made of other employers.

Media headlines do not necessarily convey the full picture. Employees have rights and employers have obligations. Severance packages are a useful and desirable tool in many instances and the increasing use of compromise agreements is testament to the effectiveness of this approach to reaching a mutually beneficial outcome to what can be fraught and difficult situations.

Lorna Gibb is an associate at Balfour and Manson.