Changes brought in by the Employment Rights Act 2025 include the reduction in the qualifying period of service for unfair dismissal claims to six months employment and the removal of the statutory cap on compensation for unfair dismissal.

Both changes will take effect from 1 January 2027. Employers must take note of these changes now and consider the impact of them in respect of short-term staff planning and particularly any changes in senior management.

It is widely anticipated that the changes brought in by the Employment Rights Act 2025 will increase the number of unfair dismissal claims pursued in the employment tribunal. Whilst the volume of claims may itself be an issue for employers, there is a possibility that highly paid senior employees may consider the prospect of an unfair dismissal claim where they have not done so before.

Certainty provided by a cap on compensation

Whilst there has been a cap on compensation available for unfair dismissal (currently £123,543), highly paid senior employees have not generally been inclined to pursue unfair dismissal claims. Employment contracts implemented for such individuals usually have better financial protection than the potential value of an unfair dismissal claim by way of notice provisions or agreed payments on exit. Therefore, provided the employer adheres to the contract on termination of employment there is unlikely to be a significant financial incentive to bring a claim for unfair dismissal which may offer little, if any, financial benefit due to the cap on compensation.

For many employers adhering to contractually agreed terms on exit, such as payments in lieu of notice, offers a predictable and convenient way to manage exits of senior employees. For example, portfolio companies backed by private equity funds often make decisions about senior management in the interests of the business taking account of the known costs of contractual payments owed to exiting managers.

Employers in other sectors including finance and insurance often agree exit payments in advance within contractual terms. Senior exits can therefore be implemented in the relative comfort of knowing that any further recourse to employment claims is highly unlikely and the cost is predictable. This relative certainty allows for more flexibility when making decisions on exits and reduces the time and resource committed to internal HR processes including performance management.

Higher costs for senior exits

The removal of the cap on compensation may not lead to an immediate rush of actual claims from senior managers (there remain factors other than compensation for an employee to consider when bringing a claim for unfair dismissal) but employers may well find themselves facing higher demands for payments on exit with senior managers leveraging the threat of a claim for unfair dismissal.

There will be scope for compensation for unfair dismissal to encompass more than losses of salary. Where a senior employee holds shares, options, or participates in a long-term incentive plan any loss attributable to a “bad leaver” determination triggered by the dismissal (such as forfeiture of unvested options of the forced transfer of shares at nominal value) could be argued to be a loss flowing from the dismissal.

It is not clear yet how an employment tribunal may address claims for such losses (disputes relating to contractual terms concerning equity are typically resolved in the civil courts) which adds a further level of uncertainty about the assessment of compensation for actual or threatened claims of unfair dismissal.

Consideration for future senior exits

Employers should now be considering the management of senior exits from 1 January 2027 taking account of:

• Any practical steps to be taken, such as implementing performance management, to mitigate the risk of an unfair dismissal claim, and
• The timing of exits, particularly recent/new hires given the protection from unfair dismissal applying after six months employment.

More broadly and with regard to new hires from now onwards, employers should:

• Implement or strengthen performance management processes for senior employees. Documented evidence of a fair process is the most effective tool for mitigating tribunal awards even where liability is established.
• Consider the overall remuneration and incentive packages offered to new hires so as to mitigate the risk of claims on exit and, where possible, disincentivise unfair dismissal claims.
• Review the structure of equity documentation to understand the interaction between leaver provisions and the enhanced risk of unfair dismissal claims. It is also important to consider processes for determining leaver status particularly where any element of discretion is applied and ensure that such decisions are reasoned and documented.
• Review and update processes in relation to the award of discretionary payments and other rewards to ensure decisions are properly taken and fully documented. Evidence of decision making may assist in mitigating potential losses in unfair dismissal claims.

To further discuss the impact of the Employment Rights Act 2025 on your senior exit strategy, contact our specialist employment team.