Avoiding An "Implied" Employment Contract Or Drafting A Favorable One: A Primer


Employers sometimes inadvertently create employment contracts.  This type of contract is implied by the employer’s actions and is binding on the employer - though it may be difficult to prove.   Because an implied employment contract may arise during any communication with a potential new hire or employee, it is essential that all employers consider the implications and possibility of creating a binding contract when communicating with potential and existing employees.

 

How Implied Agreements Arise

Interviewing

Do not exaggerate. Implied contracts can be formed based on what you say.  Do not promise the prospective employee that she only will lose her job if she does it poorly, or that she will receive a pay raise every year, because this may limit the ability to make changes in the employment contract which are desired for other reasons, such as loss of funding or decreased sales requiring a lay off. 

Employers always should maintain flexibility to assign duties and responsibilities as necessary for the business.

Offer Letters

If an employer routinely sends out a letter to new hires to confirm the job offer and any other terms, like the starting date, they are running the risk of creating a contract.  If employers choose to use an offer letter, they should include only the starting date of employment, not a term of employment, and should be sure to include wording that the employment relationship is “at-will,” with a definition of what that means. 

They should state the compensation to be paid in terms of payroll increments, rather than stating a yearly salary that could be read as a promise of at least a full year’s employment; identify the contingencies of the offer, such as execution of a nondisclosure agreement; state that continued employment is conditional upon a number of factors, including but not limited to, job performance and compliance with company policies and procedures.

Employers should never require a new hire to sign the offer letter. 

During A Promotion

When an employee has performed well, employers tend to reward them with a raise, bonus or promotion.  At this point in the relationship, both sides are generally feeling pretty good about each other and statements regarding longevity with the company, superb performance, and invaluability can be made.

Employers should be careful.  Employees remember every positive thing ever said to them.  

Employee Handbooks / Manuals

Many of the terms that would be part of the contract are documented in company employment manuals. These manuals typically outline things such as vacations, paid holidays and sick leave.  If employers use a manual, the “at-will” disclaimer must be obvious and repetitive.

Custom and Practice

Custom and practice in a company can become part of an employment contract.  For example, if employees come to have “reasonable” expectations of receiving a benefit, like a Christmas bonus, a court may find the employer owes it to them.

Pros and Cons of Using an Employment Contract

When deciding whether to offer employment contracts, or to expend energy avoiding the creation of an implied contract, employers have to weigh the benefits against the costs.

A benefit is keeping a key employee with an organization for a certain term or ensuring that if the key employee does leave, the organization is given sufficient notice and time to transition, can be invaluable, as is protecting confidential and/or sensitive information. 

Non-competition clauses in contracts can protect employers from an employee competing against it once she leaves.  Using the security of a defined term and benefits may also assist employers in recruiting the best talent.  Finally, employment contracts may assist the employer in defining the terms and conditions of employment and communicating the arrangement to the employee from the start. 

However, employment contracts also bind employers and may limit their ability to alter the terms of employment as they deem necessary, whether to address employee issues or a changing marketplace.  For both employees and employers, being contractually obligated to remain in a situation that is just not working can be detrimental to business and time consuming to resolve.

If you decide to use contracts, consider addressing the following issues.

Duties/ Responsibilities

Employers must retain enough flexibility as possible.  They should not use detailed job descriptions that will prevent them from reassigning the employee; rather, they should reserve the right to amend or add to the employee’s duties, or change the place of work, according to the needs of the business. 

Benefits

Health plans, bonuses, vacation time, memberships, car allowances.  Employers should make it clear that benefits are discretionary and the benefits may change over time, but that all employees will be given notice before any change. 

Compensation

Salary, Bonus, Stock, Retirement Funds, Signing Bonus.  The contract should set out how and when the employee will be paid, as well as whether the employee is required to remain in the job for a certain period to keep the signing bonus, earn stock, etc. It also should address the stock vesting period, purchase price and opportunities for additional grants, or at least state where this information is contained.

Term

The contract need not be for a defined term, although contracts often contain a guarantee of employment for a specified length of time.

Relocation Expenses

Contracts should address how, when and to what extent employers will reimburse the employee and whether the employee is required to stay in the job for a certain period to keep the relocation reimbursement.  The contract also should state that, in the event either party terminates the contract, the employee will not be entitled to expenses incurred in locating back to her original home.

Expense Accounts

An expense allowance can be more beneficial than paying expenses out of pocket and then getting reimbursed, because expense allowances may be tax exempt.

Termination Clauses

Any contract should describe in what circumstances either party can terminate the employment relationship and make provisions for the employee in the event she is terminated.  For example, all contracts should detail provisions of severance pay, outplacement/career counseling, references, continuation of insurance, and purchase periods for stock options. 

Non-competition Clause

This is an agreement that bars an employee from competing with a former employer for a certain period of time after the employment ends.  They are valid if reasonable in time and geographic area, and if no broader than necessary to protect the employer’s legitimate business interest.  

If used, it is imperative to provide some clear additional benefit to the employee to ensure this clause is enforceable.  The additional benefit, something to which the employee is not already entitled, should be stated in the agreement. 

For example, employers should consider offering a promise of severance pay when the employment relationship terminates, stock options or stock, a raise, or additional vacation time.  Employers should also consider asking the new hire to acknowledge that she is not currently subject to a non-competition agreement with a previous employer that would interfere with her ability to perform the current job. 

Employers may also ask the new hire to indemnify them in the event a previous employer sues on an existing non-competition provision. 

Choice of Law

Contracts should include a clause stating which jurisdiction’s substantive law will govern the contract and thereby apply to the dispute.

Attorney’s Fees

An “attorney’s fees” clause itself has pros and cons.  It reduces the risk of one party filing frivolous or baseless accusations.  It also deters parties from enforcing their rights in cases that are not clear-cut. 

Integration

Integration clauses are essential in reaching the goal of an employment agreement – defining all the terms and conditions of the relationship.  Its use prevents any oral understandings or other agreements that are not incorporated into the written document from being enforceable.