Non-Compete Clauses, Restraint of Trade & HMRC Section 225
Restrictive Covenants in Settlement Agreements
When an employer hands you a settlement agreement, the headline payout often hides restrictive covenants in the fine print. These clauses can prevent you from working for competitors, speaking to clients, or hiring former colleagues for months. Understanding your statutory rights under UK employment law and the critical HMRC tax rules helps you protect your career and your money.
Are restrictive covenants in a settlement agreement enforceable?
Under UK employment law, all restrictive covenants are void by default under the doctrine of restraint of trade. They are only enforceable if your employer proves they protect a legitimate business interest and go no further than reasonably necessary. Furthermore, under Section 225 of ITEPA 2003, payments for restrictive covenants are fully taxable under PAYE. They do not qualify for the £30,000 tax-free exemption.
Six critical facts every employee must know
- Post-termination restrictions are legally void by default unless your employer proves they protect a legitimate business interest.
- Your employer cannot unilaterally impose new restrictive covenants without giving you separate valuable consideration.
- Payments for agreeing to restrictive covenants are taxable under Section 225 of ITEPA 2003 and do not qualify for the £30,000 tax-free exemption.
- Non-disclosure clauses cannot lawfully gag you from reporting wrongdoing or whistleblowing under Section 43J of the Employment Rights Act 1996.
- An SRA-regulated solicitor can often negotiate to delete, shorten, or narrow aggressive restrictions during settlement discussions.
- Your employer covers the legal fees for your independent solicitor advice (typically £500 to £1,500 plus VAT) under Section 203.
The four types of restrictive covenants in UK settlement agreements
When reviewing a draft settlement agreement, you will often find restrictive covenants placed under headings such as "Post-Termination Restrictions" or "Continuing Obligations". Employers use these clauses to protect their commercial interests after you leave.
UK employment contracts and settlement agreements typically feature four distinct types of restrictions:
1. Non-compete clauses
These clauses stop you from working for a competing business or setting up a rival company in direct competition with your former employer. Because non-competes restrict your fundamental right to earn a living, courts scrutinise them heavily. They are rarely upheld if they exceed 6 to 12 months.
2. Non-solicitation clauses
A non-solicitation clause stops you from approaching or contacting former clients, customers, or suppliers to win their business. Courts are more willing to enforce these clauses than non-competes, provided they only cover clients with whom you had personal contact during your final 12 months.
3. Non-dealing clauses
Non-dealing clauses go further than non-solicitation. They prohibit you from doing business with former clients even if those clients contact you first without any encouragement. Employers must prove a very close connection to justify this level of restraint.
4. Non-poaching clauses
These restrictions prevent you from hiring, enticing away, or employing former colleagues in your new venture or role. Enforceable non-poaching clauses are typically restricted to senior managers or key technical staff rather than all company personnel.
Before signing, check whether your settlement agreement simply repeats the clauses in your employment contract, or whether your employer has slipped in broader restrictions.
Are restrictive covenants enforceable? The restraint of trade doctrine
Under English common law, any agreement that restrains an individual from freely exercising their trade or profession is contrary to public policy and void. This is known as the doctrine of restraint of trade.
To enforce a restrictive covenant against you in court, your employer must satisfy two strict legal tests:
The employer must prove they are protecting genuine trade secrets, confidential intellectual property, customer goodwill, or workforce stability. An employer cannot enforce a clause simply to protect themselves against normal, healthy market competition.
The covenant must go no further than reasonably necessary to protect that interest. An agreement that restricts an employee for two years across the whole UK when the employer only operates in Manchester will almost certainly be struck down by a court as unreasonable.
The Supreme Court ruling in Tillman v Egon Zehnder Ltd
In the landmark authority Tillman v Egon Zehnder Ltd [2019] UKSC 32, the UK Supreme Court clarified how courts handle overly wide restrictive covenants.
Under the "blue pencil" rule, a judge will only sever or delete unreasonable words if the remaining clause makes sense without altering the fundamental character of the contract. Courts will not rewrite a bad covenant for an employer. If a restriction is drafted too broadly, the entire clause fails and becomes unenforceable.
Can an employer add new restrictive covenants in a settlement agreement?
Many employees discover that their draft settlement agreement introduces new 6-month or 12-month non-compete clauses that never existed in their original employment contract. Employers often attempt to insert these terms during redundancy or workplace restructuring.
Legally, your employer cannot force you to accept new restrictions. Under basic English contract law, a new promise requires new consideration.
Option A: Reject the new restrictions entirely
Your independent solicitor can inform the employer that you will only agree to affirm the existing terms of your employment contract. In many cases, employers drop new covenants when challenged because their primary goal is securing the waiver of tribunal claims.
Option B: Demand financial compensation for accepting them
If your employer insists on a new non-compete clause, your solicitor can use this demand to push for higher financial compensation. If staying out of your market for 6 months costs you valuable earnings, the settlement sum must compensate you for that commercial sacrifice.
Option C: Narrow the duration and geographical scope
Your solicitor can negotiate specific carve-outs. For example, amending a nationwide ban to a 5-mile radius, reducing the duration from 12 months down to 3 months, or exempting specific non-competing divisions or clients.
Check your restrictive covenants in 30 seconds
Paste your draft post-termination restrictions below to check non-compete durations, detect missing garden leave offsets, and audit compliance with Supreme Court rules in Tillman v Egon Zehnder.
Restrictive Covenant & Non-Compete Risk Scanner
Employers frequently insert fresh 6 to 12-month non-competes into settlement agreements or allocate taxable consideration that triggers unexpected HMRC tax deductions under ITEPA 2003 s.225. Paste your draft clause to audit restraint of trade risks.
The HMRC Section 225 tax trap: Why separate consideration matters
One of the most dangerous traps in a UK settlement agreement involves the tax treatment of restrictive covenants under HMRC rules.
Under Section 403 of the Income Tax (Earnings and Pensions) Act 2003 (ITEPA 2003), genuine compensation payments for loss of office are free of income tax up to £30,000. Many employees assume this £30,000 exemption covers the entire settlement package.
However, restrictive covenants fall under a completely different statutory tax regime:
Section 225 of ITEPA 2003 (Payments for restrictive undertakings)
Under Section 225 and Section 226 of ITEPA 2003, any valuable consideration given for entering into or agreeing to a restrictive undertaking is treated as earnings from employment. It is subject to full PAYE income tax, employee Class 1 National Insurance, and employer National Insurance contributions (currently 15.0% for 2026/27).
If your settlement agreement introduces or reaffirms restrictive covenants without allocating a specific sum to them, HMRC can challenge the agreement under Employment Income Manual guidance EIM03600. HMRC may claim that a portion - or even the entirety - of your tax-free £30,000 payment was actually consideration for the restrictive covenants. This creates an unexpected PAYE tax bill and penalties.
How solicitors protect your £30,000 tax-free exemption
To prevent HMRC from reclassifying your tax-free redundancy compensation, experienced employment solicitors ensure that the settlement agreement includes a separate, nominal payment specifically allocated to the restrictive covenants.
This clause typically allocates £100 to £500 as consideration for the post-termination restrictions, with full deduction of PAYE and National Insurance on that nominal sum alone. This creates a clean legal partition, ring-fencing the rest of your compensation under the £30,000 Section 403 tax exemption.
Non-disclosure agreements (NDAs) and whistleblowing limits
Settlement agreements routinely contain strict confidentiality clauses and non-disparagement provisions. These prevent employees from discussing the terms of the settlement, the surrounding negotiations, or making negative comments about the company and its directors.
While genuine commercial confidentiality is lawful, employers cannot use a settlement agreement to silence employees regarding illegal acts or regulatory wrongdoing.
Section 43J of the Employment Rights Act 1996
Under Section 43J of the Employment Rights Act 1996 and the Public Interest Disclosure Act 1998, any contractual provision that attempts to prevent a worker from making a protected disclosure is void as a matter of law.
You can never be gagged from reporting criminal acts, failures to comply with legal obligations, miscarriages of justice, or health and safety dangers. You retain the right to speak to statutory regulators such as the Financial Conduct Authority (FCA), Solicitors Regulation Authority (SRA), Care Quality Commission (CQC), or HM Revenue and Customs (HMRC).
Standard permitted disclosures in settlement agreements
Your independent solicitor will check that the confidentiality clause explicitly permits you to discuss the settlement agreement with:
- •Your immediate family, such as your spouse or civil partner, provided they keep the details confidential.
- •Your professional advisers, including your solicitor, accountant, and tax advisers.
- •HM Revenue and Customs (HMRC) for statutory tax assessment purposes.
- •Medical professionals or registered counsellors for health support.
- •Prospective employers, solely to the extent permitted by an agreed reference schedule.
Employment contract vs settlement agreement covenants compared
This comparison shows the key differences between restrictive covenants in your original contract and those in a proposed settlement agreement:
| Restriction Element | Employment Contract | Draft Settlement Agreement | Solicitor Negotiation Strategy |
|---|---|---|---|
| Legal Status | Agreed upon joining company | Re-affirmed or newly introduced | Refuse new covenants or demand compensation |
| Consideration | Salary and benefits package | Must have separate taxable consideration | Allocate nominal taxable sum under s.225 |
| Duration | Fixed contractual term (e.g. 6m) | Often extended by employer | Negotiate reduction or garden leave offset |
| Scope of Restraint | Subject to Tillman reasonableness | Often adds new competitors or sectors | Insert specific carve-outs for new roles |
| HMRC Tax Rule | Not directly relevant on exit | Section 225 ITEPA taxable risk | Ring-fence £30,000 statutory tax exemption |
| Independent Advice | Not legally mandatory | Mandatory under Section 203 ERA 1996 | Employer covers the legal fee (£500+ VAT) |
How independent solicitors negotiate restrictive covenants
Under Section 203 of the Employment Rights Act 1996, you cannot sign a valid settlement agreement without independent legal advice from a qualified adviser, such as an SRA-regulated solicitor.
Your solicitor will examine every post-termination clause and execute tactical negotiations to protect your career:
1. Clause-by-clause contract comparison
Your solicitor will compare the settlement agreement against your original employment contract. If your employer has added restrictions or widened their scope, your solicitor will flag this immediately and challenge the justification.
2. Negotiating a garden leave offset
If your employer placed you on garden leave prior to departure, your solicitor will ensure that the garden leave period is deducted from any post-termination non-compete. For instance, if you have a 6-month non-compete and spent 3 months on garden leave, your remaining restriction should be reduced to 3 months.
3. Securing client and geography carve-outs
If you have already identified a potential new job, your solicitor can negotiate specific wording confirming that taking that role will not breach the settlement agreement. This eliminates future legal threats and gives you complete peace of mind.
4. Enforcing reciprocal non-disparagement
While employers always include clauses forbidding you from criticising the company, solicitors ensure these obligations are strictly mutual. Your solicitor will add clauses binding the company, its directors, and senior managers from making disparaging remarks about you to prospective employers.
Remember that your employer covers the legal fees for your independent solicitor advice. Standard employer contributions range between £500 and £1,500 plus VAT, meaning you will not be out of pocket for standard advice.
Step-by-step checklist if your settlement agreement has restrictive covenants
Follow these practical steps when reviewing post-termination restrictions in a draft settlement agreement:
- 1Locate your original employment contract and check what restrictive covenants you originally signed up to.
- 2Compare the original restrictions against the clauses in the draft settlement agreement to identify any new or expanded terms.
- 3Check whether the settlement allocates a separate, nominal taxable payment for restrictive undertakings under Section 225 of ITEPA 2003.
- 4Ensure the confidentiality clause contains standard statutory exceptions for family, professional advisers, and whistleblowing under Section 43J.
- 5Instruct an SRA-regulated employment solicitor to review the agreement. Your employer covers the cost of independent legal advice.
- 6Use our free calculator to check that the overall settlement compensation adequately compensates you for any commercial restraints.
Frequently asked questions
Can my employer add new restrictive covenants to a settlement agreement?
Yes, an employer can propose new restrictive covenants in a settlement agreement. However, under English contract law, you are under no obligation to accept them. Any new restriction requires separate, valuable consideration to be enforceable. If your employer wants to prevent you from working in your industry, an SRA-regulated solicitor can negotiate to remove the clause or demand higher financial compensation for accepting it.
How does HMRC tax payments for restrictive covenants in a settlement agreement?
Under Section 225 of the Income Tax (Earnings and Pensions) Act 2003 (ITEPA 2003), any payment made in return for entering into a restrictive undertaking is taxable as employment earnings. This means it is subject to PAYE income tax and Class 1 National Insurance. It does not qualify for the £30,000 tax-free exemption under Section 403. Settlement agreements must allocate a separate nominal sum, typically £100 to £500, to ensure HMRC does not challenge the tax-free status of the remaining compensation.
Are post-termination non-compete clauses legally enforceable under UK employment law?
In UK employment law, all restrictive covenants are void by default under the doctrine of restraint of trade. A covenant is only enforceable if your employer can prove it protects a legitimate business interest, such as trade secrets or customer connections. The restriction must also go no further than reasonably necessary in duration and geographical reach, as established by the Supreme Court in Tillman v Egon Zehnder Ltd [2019].
Can a settlement agreement prevent me from whistleblowing or speaking to regulators?
No. Under Section 43J of the Employment Rights Act 1996 and the Public Interest Disclosure Act 1998, any clause attempting to prevent an employee from making a protected disclosure is void as a matter of law. You retain the absolute legal right to report criminal acts, regulatory wrongdoing, or health and safety risks to regulators such as the FCA, SRA, CQC, or HMRC, as well as to the police.
Who pays the solicitor fee to review and negotiate my restrictive covenants?
Your employer covers the legal fees for your independent solicitor advice under Section 203 of the Employment Rights Act 1996. Standard employer legal fee contributions typically range between £500 and £1,500 plus VAT. Your solicitor will review every restrictive covenant, ensure tax compliance under Section 225, and negotiate amendments directly with your employer.
Can my solicitor negotiate to remove or reduce restrictive covenants from my settlement agreement?
Yes. Negotiating post-termination restrictions is a standard part of an independent solicitor review. Common amendments include reducing a 12-month non-compete down to 3 or 6 months, ensuring time spent on garden leave is deducted from the restriction period, or agreeing specific carve-outs that allow you to work for non-competing divisions or named companies.
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Check where your settlement agreement clauses stand
Calculate your statutory baseline, check your restrictive covenants, and get matched with an SRA-regulated solicitor. Your employer covers the cost of independent legal advice.