Beware of Using Employment Agreements

Employment agreements should be used sparingly by employers, otherwise you may find it difficult to terminate the employee who signed the agreement or to change the terms of their compensation or benefits, and you may open yourself up to breach of contract claims. To be clear, I am not talking about arbitration agreements or confidentiality agreements, which are very specific types of agreements and which generally should be given to all employees. Instead, I am talking about employment agreements that set forth terms of employment such as compensation, benefits, job duties, termination events, and severance pay.

For most employees, an offer letter is the best way to communicate the terms of employment. Offer letters are not agreements (and should contain statements stating so), and should state that the employer retains the freedom to later change the terms and conditions of employment at its discretion. This way you can communicate both parties’ expectations without tying your hands down the road.

Employment agreements on the other hand, may be beneficial when hiring high ranking executives who might not be subject to the same terms and conditions of employment as most other employees.  Employment agreements are best used when the terms and conditions of employment have been specifically negotiated between the employer and employee. As a general rule of thumb, if you are going to pay someone a salary less than six figures, they probably don’t need an employment agreement.

Once you enter into a written agreement, you generally will be bound by that agreement unless you enter into a new written agreement with the employee. This can create headaches down the road. For example, one of my clients gave an employment agreement to every new hire which contained terms for bonus compensation that varied from one agreement to the next based on slight changes the client made to their standard agreement over the years. This created unnecessary hassle when my client wanted to change their bonus policy. Had they used offer letters instead of employment agreements, they could have unilaterally announced a new bonus policy which would have immediately been applicable to all their employees. But this would have violated the terms of their employment agreements, which required changes in compensation to be the subject of a new written agreement signed by both the employer and employee. Therefore, my client had to enter into new agreements with each of their employees to change the terms of their bonus pay, creating a lot more work and hassle.

There may also be problems if you have an employment agreement that sets forth terms regarding termination of employment that are anything other than at-will. For example, I had another client that used agreements stating that employment was at-will but which also required either party to give 30 days’ notice of termination, creating a host of problems when it came time to terminate employees. The moral of the story is save formal employment agreements for your most senior employees, and use offer letters for everyone else.

Employer Action Items:

• Are you using employment agreements for employees who are not senior executives? If so, you should consider switching to offer letters for new hires, and ditching the employment agreements.
• If the position does call for an employment agreement, you should work with employment law counsel when negotiating and drafting the agreement. This should not be something that you cut and paste into a new agreement each time an employee is hired. Rather, these tend to be heavily negotiated and specific to the particular person who is filling a specific position.