In brief
The Court of Appeal recently ruled that an employer could not enforce a contractual provision requiring a former employee to repay a sum representing training costs after he resigned within the first two and a half years of commencing employment. The Court held that the clawback provision constituted an unlawful restraint of trade.
Key takeaways
- Carefully consider the circumstances in which a clawback will apply and whether the scope of the provision is proportionate.
- Employers should not assume that a clawback provision will automatically be enforceable simply because it is labelled as a repayment of training costs.
- If an employer wishes to recover sums directly from an employee's salary, there must be a clear contractual right to do so. Failure to include such a right may give rise to an unlawful deduction from wages claim.
In more detail
Clawback provisions are commonly included in employment contracts to allow employers to recover money that has been paid to, or on behalf of, an employee. They are commonly used to recover training costs, immigration costs (subject to exceptions) and bonus payments.
Although clawback provisions can be enforceable, they are subject to scrutiny by the courts. As they may operate as a restraint of trade, they must go no further than is reasonably necessary to protect a legitimate business interest. Clawback provisions can also fall within the rule on penalties, depending on how they are framed.
As with any contractual provision, clawback clauses should be precise and unambiguous. The circumstances in which repayment is required, the amount recoverable, and the mechanism for recovery should be clearly set out.
Employers should also be aware that a clawback provision does not automatically entitle them to deduct repayment sums from an employee's pay. If deductions are intended, there must also be an express contractual right permitting those deductions. Otherwise, the employer risks a claim for unlawful deduction from wages.
Risk – penalty doctrine
Employers should consider whether a clawback provision could be challenged as an unenforceable penalty clause, a contractual provision which imposes a detriment out of proportion with the employer’s legitimate interests. This should be considered by reference to the method of calculating the clawback amount.
The penalty doctrine only applies where the payment obligation arises as a result of a breach of contract, and so a repayment obligation triggered solely by an employee's resignation will not ordinarily fall within the penalty doctrine, but other forms of clawback provision might.
Risk – restraint of trade
A further risk is that a clawback provision may amount to a restraint of trade.
The restraint of trade doctrine applies to contractual provisions that restrict an individual's ability to carry on their trade, profession or employment. It can apply to provisions that make it more difficult or less attractive for an employee to move to alternative employment, even where there is not an outright restriction.
Such provisions are not automatically unenforceable. An employer may be able to justify a restraint where it protects a legitimate business interest and goes no further than is reasonably necessary to protect that interest.
Geeks Ltd v. Watts
A recent ruling from the Court of Appeal in Geeks Ltd v. Watts provided further detail on how the courts deal with clawback provisions that operate as a restraint of trade.
Mr Watts worked as a Trainee QA Engineer for Geeks Ltd. During his first year of employment, he received a salary of GBP 18,000. He also entered into a separate training agreement under which he incurred a "training cost debt" of GBP 8,108. The debt would begin reducing after 12 months' service and would then reduce by 1/18th for each further complete month worked.
Mr Watts resigned after eight months' employment to take a higher-paid role elsewhere. Geeks Ltd subsequently sought repayment of the GBP 8,108 and commenced proceedings against him.
At first instance, the court held that the provision constituted a restraint of trade but concluded that the employer had a legitimate interest in protecting its investment in training and that the restraint was justified on that basis. The initial appeal court agreed. However, the Court of Appeal reached a different conclusion.
The Court of Appeal held that, even assuming that the employer had a legitimate interest to protect, the provision went further than was reasonably necessary. In particular:
- The repayment obligation applied regardless of the reason for the termination of employment, including where Mr Watts was dismissed (other than in redundancy situations).
- The practical effect of the provision was to reduce Mr Watts' remuneration retrospectively to a level comparable to that of an unpaid intern.
In reaching its decision, the Court of Appeal also made several wider observations:
- The burden rests on the party seeking to enforce the restraint to demonstrate that it goes no further than is reasonably necessary to protect a legitimate business interest.
- Although the fact that an employee did not receive independent legal advice is not determinative, it may be a relevant factor, and inequality of bargaining power may be particularly relevant in cases involving low-paid employees.
- The Court of Appeal also expressed concerns regarding the method of calculation of the GBP 8,108 figure, although it did not determine that issue as it was not a ground of appeal.
What does this mean for employers?
This decision does not mean that all training cost repayment provisions are unenforceable. However, it acts as a reminder that employers should carefully consider both the drafting and the practical effect of any clawback arrangement.
In particular, the drafting should be carefully considered to reflect the cost to the business. This can either be through incurring external fees or by way of verifiable internal cost assessments, in order to increase the likelihood of enforceability.
Lillith Nelhans McDonald, Associate, has contributed to this article.
For specific advice on this development and to help your business navigate this area, please contact your usual Baker McKenzie contact.