EIM03605 | Restrictive undertakings: termination agreements

Section 225 ITEPA 2003

Restrictive undertakings in employment contracts

Restrictive undertakings may be set out in a contract of employment. They may restrict the employee for the duration of the employment as well as after it has ceased.

The most common restrictions applying after employment are:

• anti-competition - the employee may not work for a competitor or within a specified area

• anti-solicitation - the employee may not contact former suppliers or customers nor poach former colleagues

• confidentiality regarding privileged information gained as an employee.

No payments are usually made for agreeing to these restrictions. They are conditions of accepting the job. If payments are made then section 225 ITEPA 2003 applies and a charge arises.

In some termination agreements the departing employee is asked to confirm that the restrictions set out in the contract of employment apply. If the employee does so without any consideration being paid then section 225 ITEPA 2003 cannot apply as there is no payment.

Restrictive undertakings in termination agreements

An employer may regard a departing employee as a potential threat if there are no restrictive undertakings in the contract of employment. The employer may therefore seek to introduce restrictive undertakings into the termination agreement. Where undertakings are written into the termination agreement and a payment is received by the departing employee for agreeing to the restrictions, the sum is caught by section 225. This was confirmed by RCI Europe v Woods.

Restrictive undertakings may be set out in the termination agreement without amounts being attributed as consideration. Normally this should not give rise to further enquiries (see EIM03606). Exceptionally, where it appears that the sum is excessive in relation to the claims being settled (such as for unfair dismissal, statutory redundancy payment, and so on) it is possible that a verbal agreement has been reached which is not set out in the written agreement. The Inspector should take a common-sense view. If the departing employee has agreed not to work in the geographical area for, say, 12 months, it is reasonable to conjecture that he may have been paid the equivalent of 1 year’s salary. Enquiries may be opened to establish the facts.

See also EIM03606 for Statement of Practice 3/96.