Defining a Release of Claims Agreement
A release of claims agreement is a document in which a claim is forfeited by one or all of the parties to a transaction. In other words, if you sign a release of claims with someone, you are releasing them from responsibility for any complaints, grievances, or obligations you may have against them, which the document specifically states.
At its most basic function, a release of claims agreement is an instrument used to settle a claim, usually at the request of the party requesting the claim. In this way, a release of claims agreement is similar to a settlement agreement. They are both more or less contractual agreements between the parties involved to cease all legal and/or business actions against another.
In the case of a release of claims agreement, the party whom the claim has been filed against, or will be filed against, is often asked for a "release" or "waiver" of the claim by the person filing it; that is, they demand that the claim be dropped or withdrawn, and not pursued in the future . The party that the release is from then usually relents and signs the release of claims, as they do not want to pursue litigation, nor do they want to continue to have the issue "over their heads."
Release of claims agreements like these are almost always about money in some way. Sometimes, a release of claims agreement is asked for after a final settlement has been reached. In litigation, when resolving a case, a release of claims agreement can be issued as a form of a settlement agreement. It can also be issued to allow a business to forego an arbitration clause, for example. These agreements are also sometimes issued in the context of an employment contract. For example, when an employee is laid off.
Structure and Elements of a Release of Claims
To be effective, the release of claims must be clear and unambiguous. When drafting a release of claims agreement, ensure that the language used is precise yet flexible to retain enforceability. The parties involved in the agreement should be clearly identified including the names of the individuals, organizations, or legal entities. The releases are also further defined by the specific claims that are being waived. Claim specificity is central to the release, but maintains flexibility by giving the released parties broad protection. Furthermore, settlement terms may also be included in the agreement including any payments made for the release or compliance with post-termination obligations. These terms are not only essential to the deal, but can also supply the employer with additional releases.
Benefits of an Effective Release of Claims
While employments may end in all sorts of ways, having a written release of claims agreement to document that the employer and employee have resolved, to the extent possible, all known and unknown issues can be critical to preventing future litigation. The release of claims can help employees get money that they need, and give employers security that former employees will not come back to assert additional claims.
A release of claims benefits employers in multiple ways. With respect to litigation in which the employer does not know whether the employee has any claims, an employer is not able to obtain a release of claims until after the employee has a claim, unless the employer engages the judgment-proof employee before the litigation starts and, hopefully, buys the cooperation of the employee. For example, an employee with a claim who does not want to go to court may be willing to sign a release of claims to avoid a lawsuit, which can help an employer save attorney’s fees and costs. An employer does not have to worry about the good faith of the employee in deciding whether to sign because the employee has already asserted a claim or the employer has uncovered information that indicates the likelihood of a claim. If the employee is engaged in negotiation over the employment terms, the release of claims may be part of the settlement agreement.
A recent Opinion of the Second Circuit in a Fair Labor Standards Act case highlights how to use a release of claims agreement in favor of the employer to benefit from the finality of an agreement. Rosenbaum v. Macallister Towing Co., 2022 U.S. App. LEXIS 26733 (2d Cir. Sep’t 23, 2022). In that case, a seaman who worked as a deckhand sued his employer, a marine transportation company, alleging that he was not properly paid overtime per the FLSA. In the course of the case, the parties agreed to a settlement agreement and mutual release to resolve all potential disputes between them generally. The trial court granted approval of the settlement agreement pursuant to the so-called Cheeks standard, which governs judicial approval of FLSA settlements, on February 26, 2021. Subsequently, the employee sought more than $600,000 in legal fees and costs after the district court had approved the settlement agreement and the release of claims. The appellate court held that the Cheeks standard did not apply to a "private" settlement agreement between the employer and the employee which did not involve payments to employees who were not part of the lawsuit and thus did not possess claims under the FLSA. The appellate court highlighted that allowing private individuals to renegotiate a court-approved settlement agreement would undermine the finality for which the judicial system strives. As a result, an employer that obtains a release of claims agreement for a former employee will be insulated from later-filed claims by the former employee against it on the law of res judicata, collateral estoppel, and claim and issue preclusion.
An employer who wants to further minimize damages even beyond the release of claims may employ a confidentiality provision whereby the release agreement includes an agreement by the employee not to publicize it, and a liquidated damages provision whereby the employee agrees to pay liquidated damages if he or she later publicizes a case that they previously agreed to keep confidential.
Using a release of claims agreement is advantageous to an employer in that it now has the ability to prevent future litigation by a former employee who has asserted a claim or who might have one. The knowledge that the employee has already given up his or her rights may prevent a future lawsuit against the employer. The fact that the agreement is negotiated to address the specific circumstances between the parties may further prevent future litigation. However, employers should be aware that a waiver of claims may be unenforceable if it is obtained through coercion, fraud, or improper means.
Limitations and Considerations
While releases of claims agreements should be drafted with the intent that they are legally binding, both attorneys and clients should be aware of certain limitations. There are statutory and common law exceptions to the general principle that all issues can be waived and that all claims can be released . In some circumstances these exceptions may be absolute; in others, there are significant restrictions and several conditions that must be met before the release of claims agreement may be enforced, or certain language must be included in order for a release of claims to be enforceable. In addition, under the common law, a release of claims agreement may be invalidated based on a number of defenses including misrepresentation, fraud, economic duress, and unconscionability.
Creating a Release of Claims Agreement
It is essential that the drafter take the following steps in preparing a release of claims agreement:
- Identify the parties and make sure that they are proper parties to the agreement.
- Identify the claims that are being released.
- Set forth the consideration for the settlement, and if necessary, the payment terms and schedule.
- Make sure that all facts are final to the agreement and that it does not allow a party to pursue facts outside the four corners of the agreement.
- Have the party executing the agreement affirmatively state that he or she understands the Agreement and has had an opportunity to consult with counsel of choice.
- Have the party executing the agreement represent that no other claims exist of which he or she is presently aware.
- Include language that the release does not include claims that cannot be given effect absent a knowing and voluntary waiver.
- Exclude referral to future matters under the agreement.
- Make sure that confidentiality clauses are well rehearsed and include all parties to the agreement.
- Be specific in drafting confidentiality clauses.
- Make sure that the Agreement allocates responsibility for payment of past and present attorneys’ fees; expenses; and costs of the parties.
- Make all parties aware of the agreement and provide them copies.
Illustrative Scenarios and Hypotheticals
To better illustrate the nuances of release of claims agreements, let’s examine a few examples and case studies of each type. While there are innumerable cases of employers and employees getting it wrong, consider first the "success" stories. Most may think of a successful release of claims agreement as one that "gets the deal done" between an employer and employee; an agreement from which there is no further contention. Certainly, such a relationship post-agreement gives the appearance of a success, but, from a practitioner’s perspective, even this should be grounded in an analysis of whether the deal was a truly fair and full resolution of the dispute. For after-all, if either side feels his or her resolution was somehow short of a complete satisfaction, there exists a vulnerability by that party to any future challenge, be it a rescission of the agreement or disengagement of the bar to prosecution of any claims that existed at the time of the severance. The genesis of the "vulnerability" relates to the contractual underpinnings upon which a release of claims agreement should be formed.
Take for example an employer facing potential litigation from a minority shareholder in a closely held business. The employer, owner of 95% of the shares, felt a "deal needed to be made" – there were not enough votes to expel the minority shareholder despite the majority owner’s desire to rid himself of this "dead weight." Rather than engage in costly, months-long litigation while the business relationship continued to grow more sour, the parties entered into a severance agreement whereby the minority shareholder ("Shareholder") agreed to sell its shares to the employer at a discount from what they would be entitled to receive as a liquidating value of the company should it be dissolved. The agreement called for the company to buy the shares at a price discounted even more should Shareholder challenge the company’s right to account the minority interest rights at the stated value. The company, not feeling it had a sufficient basis on which to expel the Shareholder (generally required by statute), nevertheless believed a legal challenge by the Shareholder could lead to continued losses by the company. Accepting the risk of having to pay a higher price through the liquidating value formula, the company made its offer -which was accepted by Shareholder . The agreement contained the usual contractual provisions to contain the scope of the deal, and the close of a major litigation risk against the company.
This case study highlights the fact that many severance agreements come as the result of a need by both sides to simply stop the bleeding and "move on." In this case, the absence of any real leverage by the company did not mean the leverage was absent – the company had leverage to the extent it was able to admit the bankruptcy of the business which would have been "a debtors’ estate" – requiring an expensive liquidation which would have cost considerably more than the price paid for the minority interest. The company was able to leverage this into an effective settlement – which is probably what the parties would have agreed to even without the agreement. Stated another way, because the presence of a business liquidation risk (whose cost could arise from any legal challenge by the minority shareholder) was a complete unknown, it served as a strong leverage point. On the other hand, if the company could have quantified the cost of that risk, could have foreseen the availability of insurance for that risk, or could have easily engaged in some cost sharing to minimize the risks, the entire deal with the minority shareholder might not have reached closure.
Similarly, in the case of employees’ agreement of release of claims, let’s take an example of an entry-level sales person. The employer must terminate the employment of this sales person, for numerous reasons including inability to achieve a reasonable standard of sales performance. The employer can show no comparable performance from peers, has no written sales policy or procedure, has established only vague verbal expectations of the employee for achieving performance. And yet, the company simply wants to avoid the greater expense of litigation, and would like to make sure that no claim is ever pressed by this employee in the future. It therefore offers a compensation structure of the following: Having completed the exchange of information occurs a gap of time in which both parties would be well advised to consider a "meeting of the minds" on virtually all of the other issues that could surround the sale of an asset or the termination of an employee. In doing so, the parties may be subjected to a number of different proposals of language, with perhaps confusing and inconsistent results for both parties. It is important that the end result arrive at clarity and no ambiguity.