In-House Separation Agreements: What to Know, Steps to Take, and Pitfalls to Avoid

An Overview of In-House Separation Agreements

In-house separation agreements refer to the amended and modified separation agreements that are utilized by employers to terminate employees with severance agreements and release of claims. The original version of these agreements were created by the United States Department of Labor to provide a format to employers for granting severance to employees. The DOL created these agreements in the context of ERISA-governed plans that would provide severance packages to employees who needed to be terminated. Since the creation of the first form in 1978, the DOL has reformed this form to reflect the changes contained in ERISA. Under ERISA, severance agreements were no longer provided by certain employers to preclude them from liability. Employees could not file lawsuits because the agreement would allow them to receive a small amount of severance pay on instead. This effectively prevented employees from filing lawsuits for various forms of discrimination. However, the courts have found these provisions to be effective at removing an employee’s incentive to file a lawsuit for discrimination. Even if a jury awards the employee a proper judgment, it would be for an amount much less than the amount they would receive under an agreement. Concerning the resulting amount of the judgment, it is often more favorable for employees to take the small settlement. Many judges have also viewed the resulting settlement as mandatory retirement that is predicated on age. Employees under the Age Discrimination in Employment Act have unique rights that prevent employers from terminating employees because of their age. The resulting settlement agreement has been found to act essentially as a retirement plan designed to preclude employees from receiving benefits and forcing them to retire. Employees under the Age Discrimination in Employment Act are required to be given an additional 21 days after reviewing an agreement and 7 days after signing it . If employees do not have this option, then the agreement is not valid and enforceable. Employers that utilize in-house separation agreements should be familiar with various protections in the Age Discrimination in Employment Act: Employers should also recall that these agreements may not be able to be limited to certain classes of employees. Employees in the ADEA class and the ADEA protections are similar to those of a group. These protections must be granted by all employees regardless of whether they are placed into a specific age-based group. The use of in-house separation agreements is not good simply for the employer. It allows for employers to be protected by a myriad of employment laws while not running afoul of other legalities. Employers are able to receive the protection of a release of claims. Moreover, the employee can be required to acknowledge other contractual obligations, including non-disclosure agreements and non-competition agreements. The termination of employment, for both the employer and the employee, may be conducted in an amicable and peaceful manner. The use of these agreements in the context of lay-offs or plant closures means that employers are able to offer a fair exit and bargain in exchange for the release of legal claims. Employees merely agree to forego the right to bring a lawsuit or other legal claim against the employer once they are terminated. Certain protections are guaranteed to employees that are not necessarily found in other parts of employment law. Therefore, if the employee brings forth a claim, then he or she may be limited in their pot of recovery. In-house separation agreements may be an effective option for employers. Employers should consult with legal counsel on whether this option is appropriate for them. DOL amendments to these forms do not necessarily have to be followed by employers. Employers may still be advised by counsel to develop their own in-house agreement, which may be tailored to the specific needs of the company.

The Key Components of In-House Separation Agreements

Termination Clause – This element outlines the circumstances under which the agreement will come into effect, including the effective date of the termination. It can also stipulate the manner in which a terminated employee should return company property and settle any outstanding expenses.
Severance Package – Typically a major point of contention, the severance offered to an affected employee can take various forms—financial compensation, extended health benefits, stock options, or a combination thereof. It’s critical to ensure that the severance package meets or exceeds the entitlement of the employee in terms of provincial law, employment agreements, or company policies.
Confidentiality – Most agreements include a clause that prohibits the terminated employee from discussing the terms of the separation with anyone other than legal or financial counsel. The terms may also be subject to confidentiality obligations with third-party partners, clients or customers of the company.
Non-Disparagement Clause – In order to protect the company’s reputation and maintain a good relationship with the employee, a non-disparagement clause can be included that prohibits the employee from speaking negatively about the company in any form—online or off. This may also extend to family and associates.
Non-Compete Agreement – Although the length of a non-compete clause depends on the circumstances, it can be an essential aspect of a separation agreement for companies concerned about loss of business or proprietary information. Non-competes generally restrict employees from directly competing (in any capacity) with the company for defined period of time, and in a specific geographical location.

Legal Requirements for In-House Separation Agreements

In addition to such in-house rules, when in-house counsel drafts separation agreements or other severance packages, compliance with state and federal laws may be in order. To that end, if and when an employee is age 40 or over, the Older Workers Benefit Protection Act (OWBPA) should be considered. The OWBPA does not prevent an employer from paying employees a severance package, but it does require certain formalities to ensure that the employee is knowingly signing the release of his or her claims. Complying with the OWBPA – commonly referred to as the Older Workers Benefit Protection Act – provides a safe harbor; noncompliance may render a release ineffective.
The OWBPA provides that at the time of signing in-house agreements, an individual must be given information that makes the agreement a knowing and voluntary release of federal age discrimination claims. If the employee is age 40 or over and he or she is signing the separation agreement, there are several requirements that go above and beyond what is required by a typical, general severance agreement that do not apply as stringently to non-selected employees. Among these requirements are disclosures that the individual has at least 21 days to consider the separation agreement, has the right to revoke the agreement and may have any release of age discrimination claims explained by counsel.
While the OWBPA applies only to federal age discrimination claims, multiple states have laws that require similar disclosures for the release of state law-based age claims. For example, California law requires an additional seven days following the revocation period to revoke an agreement.
As the OWBPA and these various state acts are in addition to the requirements of general in-house severance policies regarding the agreement, blanket releases may not be appropriate. To comply fully, each released employee should be provided an individualized in-house severance agreement that has been drafted pursuant to applicable state and federal laws for the purpose of seeking a fully enforceable release of federal and state law-based claims.

How To Draft In-House Separation Agreements

The first step in the process is to draft the separation agreement. Not infrequently, it is the in-house employment lawyer that does the drafting. If this is to be done effectively, there are a number of important points to keep in mind.
First, the agreement should be concise. Clarity is important to ensure that all parties have the same understanding of their obligations and the specific terms of the severance. Drafting something that ends up being 12 pages long can be counter-productive. Understandably, if the agreement contains everything that must be contained in the agreement, it can become very long. However, only those obligations that are material and absolutely necessary should be included in the text of the separation agreement. The question to be asked is, is there anything in the agreement that I could suggest as being mandatory, supervening the language contained in the agreement, that would cause the employee to effectively plead the sixth amendment or seek the advice of counsel in order to understand what he or she signed? In answering this question, I can almost hear my colleagues in the employment law group saying that I have never done any litigation. Indeed, that is true. Accordingly, I cannot attest to the pain and suffering of what occurs when a party is forced to dig out of the landfill what was contained in the separation agreement to which someone unwittingly agreed. Besides which, as an employment lawyer, I am a bit of a coward. I would rather settle things once and for all and avoid the pain and suffering of my time having to be spent in some faraway city in a courthouse where I would be chasing litigation seals.
Nevertheless, fewer pages equal less heartburn.
Second, the separation agreement should reflect a compromise for both sides. From the employer’s perspective, something has to be done to ease the departure from a job that, by and large, the employer has either determined is not a good fit or that the company is better served to do without. The employer has to recognize that the employee’s financial situation has been fundamentally changed and, accordingly, some accommodation and mitigation should be made in the amount to be paid to the employee.
Third, the employer has to be prepared to pay what it can afford. In some instances, there is no urgency, as the employee is not being terminated from his or her workplace. In other circumstances, there is a pressing need to have the employee leave immediately. For example, the employee has been involved in an internal investigation, the results of which have yet to make their way to the powers that be. Another example is when the Massachusetts child labor law might be in play and the manager being terminated might be the manager who oversees minors. In each of these situations, the amount of the payment to the employee and the timing of the payment will be driven in part by whether the manager is permitted to leave immediately, no matter what. The employer should take comfort that there is case law in Massachusetts that supports the proposition that an employer can relieve itself of the obligation to pay severance when the former employee would otherwise be required to remain on the premises for a period of time.
In drafting the agreement, the employer’s counsel should not predetermine what the amount of the severance is to be. That is what human resources is for, after all. Counsel’s knowledge of the marketplace allows for a more informed analysis of the appropriate range. Also, be cautious that the separation agreement does not include an acknowledgement to the effect that the amount is more than the employee is entitled to receive and that the parties believe that all that is being offered is a compromise to which they both agree. My experience is that human resource professionals are well aware of what a reasonable severance amount is within the industry. The agreement should be drafted accordingly.
Counsel may also use his or her experience to determine if there are any creative ideas that would allow for less money changing hands, but nonetheless be a positive sign of good faith on the part of the employer. For example, in a situation involving an executive vice president with three years remaining on his contract where the expectation of him finding work of like kind and compensation was nil, counsel was instrumental in recommending that the separation agreement contain a non-compete that was never their to have. Signing the non-compete meant one less thing that the employee would have to worry about in finding future work. The emotional value of the employer thereby offset what could have otherwise been a substantial severance payment.

Typical Mistakes in In-House Separation Agreements and How to Fix Them

Many in-house lawyers have little experience drafting separation agreements, while outside counsel often approach these documents as they would any other contract, failing to consider the importance of following best practices. Below are some common mistakes in drafting in-house separation agreements:

• Failing to discuss federal benefits — Most in-house separation agreements do a poor job of addressing federal benefits, including IRS § 402(f), trade act benefits and unemployment benefits.
• Including vague definitions and ambiguous terms — Although ambiguity is not normally the problem in any one particular contract, an in-house separation agreement is different from other agreements. You are asking for a release of unknown claims of the future, in a world where employer decisions about benefits can happen overnight. You are asking for protection from exposure to litigation that could result from any number of decisions made by human resource or legal professionals. Therefore, it’s important to understand how one seemingly innocuous word can lead to a big misunderstanding down the line.
• Failing to focus on the company’s needs — Separation agreements are drafted in a highly specific context: the relationship between the company and the departing executive. If the company is facing litigation or costs from an industry-wide campaign , a simple focus on the company’s needs for the next few years may not be sufficient.
• Not having the right people involved in the decision-making process — Corporate culture and the experiences of the human resource department in dealing with difficult employees can influence how the company views the value of a key employee. The IT department’s ability to cut off access to the company’s computer system can also be affected by a manager’s personal animosity towards the worker in question. When drafting the in-house separation agreement, it’s important to ensure that all of the decision-makers have been involved in evaluating the employee and identifying the risks to the business so that all relevant experience and perspectives are factored into the decision.
• Not using the right personnel to negotiate the deal — Separation agreements are unique in that the employer must balance the need for the employee to separate as soon as possible with the reality that the employee is often an important public figure in a publicly-held company. It is important, therefore, to coordinate your operations with your legal counsel and PR firm to arrive at the appropriate method for discussing the resignation with the general public once the separation agreement is executed.
• Failing to focus on the employee’s perspective — The best way to create good will and discourage lawsuits is to assure the employee that the company desires to make the separation look good to the public. For many senior executives, their reputation stands with their participation in the company, so isolating them from the company in an acrimonious separation can be seen as poor business judgment by the executive in question and create larger employment-law problems later.

Effects of In-House Separation Agreements on the In-House Employees

The role of in-house separation agreements can be significant for employees. These documents are contractual in nature, including terms and conditions that both the employer and employee must adhere to. Consideration of all aspects of the agreement – such as compensation, health benefits and limitations on future employment – could have a substantial impact on the employee’s future life.
Most employments are "at will" which means at that an employer can terminate its employees for any reason at any time so long as that reason is not discriminatory. When an employer separates its employee, it has several options. These options carry legal ramifications and implications for the employee that should be built into the employee’s decision-making process. For example, if the employer plans to terminate employment immediately, the employer can provide the employee with a severance payment in the amount equal to the employee’s pay during the notice period. This notice period can be negotiated either before or during the employment relationship, but if the employer intends to terminate the employee without notice, this negotiation should occur beforehand. Such a cash payment makes up for the loss of pay during this period and potentially compensates the employee for the loss of his employment. As a concession, the employer may request the employee to sign a release in favor of the employer and the separation paperwork should include a notice period and the amount of the payment.
Health benefits can also be continued, which can be significant for employees. COBRA or Kentucky single state continuation may be available to the employee. If the employer has a self-insured plan, it must provide the employee with details and eligibility for COBRA. Kentucky single state continuation may be available if COBRA does not apply to the employer.
An employee who is separated (involuntarily) must determine if it is within the employee’s interest to sign a release and receive a severance. An important factor is the enforceability of a restrictive covenant. If the employer has a restrictive covenant provision that could possibly be imposed on the employee, the employee should consider whether signing a release would increase the possibility that the injunction will be granted by providing a strong factual basis.

Negotiating the In-House Separation Agreements

Few people would benefit from a total separation of employment, but determining what benefits would be appropriate in an in-house separation agreement requires a careful analysis of many different factors – individual and employer-related. The most fundamental reason for this careful analysis is that if the separation is truly by mutual agreement, the parties can negotiate what they want with a clear focus on their own individual needs.
So what terms might an employer offer to convince an employee to resign? Similarly, an employee forced to leave may be thinking in terms of negotiating a voluntary separation package (if there is no voluntary program available) or severance. What terms should the employee accept?
The key to answering these questions is knowing what the employer can afford – and what the employee really wants. Sometimes those two can meet, and sometimes they can’t. For example, an employer may want an employee to sign a release of claims in order to receive a letter of recommendation. An employee may agree to do this depending on whether he or she believes the letter will make a difference in getting employment elsewhere. An employer may want to pay the employee 6 months of salary because 6 months of salary is what the company’s written policy states is the amount to be paid upon separation. An employee who has serious social media presence and the risk of very negative publicity may want substantially more.
This negotiation process gives the parties flexibility, but it also requires them to recognize that there is a limit to what can be offered or accepted as part of a separation agreement. All parties should come to negotiations with the minimum and maximum amount that they would be willing to either give or accept, and with some sense of what the other party would be willing to accept.

Examples of In-House Separation Agreements

As with most areas of the law, numerous case studies and real-world examples are available that guide the drafting of separation agreements. These examples offer insights into best practices, as well as cautionary tales to ensure the contract is both legally binding and protective of all parties’ interests. For instance, in the landmark case of Fennel v. Tahoe Forest Hospital, the court upheld a unilateral separation agreement if the employee received adequate notice, given prior employment contracts, and if the separation agreement did not violate public policy. (In this case, the physician’s contract included language that governed the relationship between the parties post-termination. However, the separation agreement added further, more onerous obligations on the physician. The physician challenged the agreement after it was executed, but the court held that the offer had been made well after the employment contract had been terminated, so the separation agreement controlled . )
Similarly, in the matter of Kaltman v. City of Chicago, the court in Illinois held that the city prevailed in opposing the employee’s enforcement of a non-compete agreement in their separation agreement. The court determined that the employee would have had independent access to "confidential information," and therefore he had operated and developed his skills independently of the employer. This case, and others, have continued to uphold the notion that, depending on the circumstance, the separation agreement may override other prior employment contracts or agreements, as long as the employee received proper notice of the new terms.
These rulings reaffirm the value of physician separation contracts as not only legally binding documents, but also strategic tools. In-house counsel would be wise to consult the considerable literature available on cases that have explored the nuances of physician separation agreements in recent years.