In a sign of the times, we’ve been receiving a lot of questions from clients about employee terminations and layoffs. Often, we end up preparing severance agreements for our clients that provide (a) severance benefits – usually money – for their former employees and peace of mind for our clients’ management and ownership. In this article, we’ll run through the basic tenants that make up a thorough severance agreement.
Severance usually consists of cash compensation and sometimes also provides for the continuation of certain benefits, such as health insurance. It can also include things like professional coaching or job placement services.
Important considerations with respect to the severance provision include:
Specifying when payment will be made, including ensuring that payment is not required if an employee is releasing age discrimination claims and decides to revoke the release (see The Release section below for further detail).
Specifying that payment is subject to required withholdings, because severance is taxable income that goes on the employee’s W‑2.
Specifying any conditions for payment, or continued payment if severance will be made over time, such as honoring confidentiality obligations, restrictive covenants (where allowed and appropriate) or returning certain materials and/or devices.
The most critical part of a severance agreement for the employer is the release.
TL;DR This provision prohibits the employee from bringing employment related claims, e.g., claims for discrimination, harassment, retaliation or wrongful termination. Important considerations with regard to the release include:
The scope of the release: this is typically worded as broadly as the law allows. (There are some rights the law does not allow an employee to waive.)
The parties being released: this typically includes the employer, any affiliates, and the employer’s principals (shareholders, members or partners), officers, employees and other representatives.
Any specific statutory requirements, which may include:
Requirements for age discrimination releases (including a minimum statutorily required period the employee must be afforded to review and consider the agreement and a post-execution period during which the employee will have the right to revoke the agreement); and
For California-based employees, reference to the proper statute for release of “unknown” claims.
Confidentiality, Intellectual Property & Restrictive Covenants
All of these provisions are optional and of varying enforceability, depending on the circumstances and which state’s laws apply (usually the state where the employee is located).
Confidentiality is a good idea if (a) you don’t have an existing confidentiality agreement, and/or (b) you want the terms of the agreement to remain confidential. Note that new developments in the law may impact your ability to keep certain information confidential.
Intellectual property assignment provisions are a good idea if you don’t have an existing agreement where the employee has assigned I.P. rights.
Finally, some states permit, with limited scope, certain “restrictive covenants,” such as promises not to compete with an employer or to solicit the employer’s clients or employees. These may be a good idea for employees in sales or executive roles who have had significant client contact. As noted, though, they may only be used in certain states and usually only under certain conditions.
The severance, the release, and confidentiality/IP/restrictive covenants are the main ingredients of an effective severance agreement.However, other provisions may be desirable depending on the circumstances. They include:
Representations by the employee that they have not filed or initiated any claims, lawsuits or investigations (by a government agency for example) against the employer.
Promises by the employee to not disparage the employer (though these are subject to restrictions due in part to the new legal developments). These may be important, for example, if you’re concerned about the former employee speaking badly about your agency in online reviews or to others in the industry.
A tax-related provision may be required or advisable if payments are spread out over a long period.
Finally, you will want some typical ancillary provisions (though they can be written in plain English), such as a “severability” provision which can save the agreement or certain parts of it from being invalidated by a court due to an overreach in one or more provisions (like the restrictive covenants).
These are the basic components of an effective severance agreement, but there are many considerations and potentially applicable laws (depending on employee headcount and location) that can impact what you should and should not put in a severance agreement. And before you proceed, it might also be worth reviewing best practices when terminating employees.
So, please contact us if you’re looking to prepare a severance agreement or offer severance.