What is Settlement Agreement? UK Definition 2026/27
Quick Answer
Legal agreement ending employment with agreed terms and tax treatment.
Definition of Settlement Agreement
A settlement agreement (formerly compromise agreement) is a legally binding contract that ends an employment relationship on agreed terms. It typically includes a financial settlement, confidentiality clauses, and a waiver of employment claims. The first £30,000 of termination pay is usually tax-free; the rest is taxable.
Settlement Agreement — Key Facts for 2026/27
| Tax-free element | £30,000 |
| Legal advice | Required for validity |
| Claims waived | Most employment claims |
| Confidentiality | Usually included |
How Settlement Agreement Works — Example
- 1Settlement payment: £50,000
- 2Tax-free portion: £30,000
- 3Taxable portion: £20,000
- 4Tax at 40%: £8,000
- 5Net received: £42,000
- 6Plus: Outstanding holiday pay, notice (taxable)
How Settlement Agreement Affects Your Tax
Settlement agreements provide certainty for both parties. Employees get guaranteed payment; employers get release from claims. Always get independent legal advice - employers must pay for this (typically £350-500 plus VAT).
Official HMRC Guidance on Settlement Agreement
For official guidance, refer to HMRC's documentation. Tax rules can change, so always verify current rates and thresholds on gov.uk.
HMRC: Settlement agreements and taxFrequently Asked Questions about Settlement Agreement
Related Tax Terms
Accuracy Note
This information is for guidance only and is based on 2026/27 tax year rates. Tax rules are complex and your circumstances may differ. For personal advice, consult a qualified accountant or tax adviser.