The Document That Could Save You Thousands: Employment Agreements 101

Overview

In the not so distant past, it was common practice for an employment relationship to begin with a simple handshake and a mutual understanding of the role, duties, and pay of an employee within the employer’s business. In fact, and to the detriment of many employers, the practise of “handshake employment agreements” continues to live on.

This article will provide an overview of employment laws in Ontario in relation to non-unionized employees, demonstrating why a written employment agreement is the most important document in an employer’s arsenal – and one that can save the business thousands of dollars. This article will further outline why Ontario businesses, regardless of size, number of employees, or years in operation, should retain experienced employment counsel to draft or review employment agreements to ensure they adequately protect the business. We compiled five (5) important points we believe employers should know about employment agreements and the employment relationship.

1. The common law in Ontario continues to evolve at a rapid pace, placing the onus on employers to keep pace with the latest developments

The law surrounding employment agreements continues to evolve in Ontario. The workplace in Ontario is highly regulated and guided by overarching principles of protecting and enforcing employee rights. Ontario courts continue to emphasize the inherent power imbalance in the employer-employee relationship, increasing the onus on employer’s to be aware of their obligations and not contravene the remedial legislation which is the Ontario Employment Standards Act, 2000 (the “ESA”). Courts have long acknowledged an “inequality of bargaining power” throughout the employment relationship, and to that end, have set out complex legal rules that apply to employment agreements, particularly those which aim to limit employee rights.

As an employer, it can be difficult to balance between safeguarding your business and maintaining healthy, mutually beneficial employment relationships. The risk, however, of neglecting the former renders the business exposed and subject to unexpected liability. Hiring attentive employment counsel to provide the appropriate advice and tailored agreements ensures the business is protected and common pitfalls are avoided.

2. Employees have certain rights, even if they are not included in the written employment agreement

Employment agreements should be drafted in a way that represents the employment context. For lower-level employees who do not require extensive restrictive covenants or who are not eligible for stock options, various discretionary and performance-based compensation plans, simple and straightforward agreements will often suffice. For higher-level employees, employers will often want to impose restrictive covenants including non-competition and non-solicitation clauses to better protect the business relative to its competitors. More complex agreements will often include terms related to intellectual property, fiduciary obligations, as well as formulas as to how short and long-term incentive plans (“LTIPs”) are calculated at the business’s year end. It is trite to say that the more detailed an employment agreement is, the more likely it will cover important circumstances in which the employer might want to rely.

Employment relationships in Ontario are subject to “common law” legal principles. Common law is judge-made law, and as will be discussed more below, common law principles are significantly more generous to employees than the ESA. Accordingly, where an employer fails to include the appropriate language or fails to limit/specify the rights and/or entitlements of a non-unionized employee in Ontario, the common law principles will be implied into the employment relationship.

Employers should be aware that just because an employment agreement is silent on a given issue does not mean that the employee cannot rely on particular employment legislation or doctrine. This is because the ESA, the common law, and implied terms play a role in the employment relationship. The ESA sets out minimum requirements for employment relationships in Ontario. This legislation has established rules around the payment of overtime, vacation pay, protected leaves of absence, and the minimum entitlements owed to an employee at the time of termination.

3. Termination clauses are the single most important provision within an employment agreement; however, most employers fail to draft them properly

The reality is that all employment relationships, at one point or another, must come to an end. Sometimes the employee leaves for alternate employment; other times, the employer is forced to make a tough business decision and end the employment relationship. Either way, it is unwise (and costly) for employers to operate on the assumption that a termination clause outlining an employee’s termination entitlements isn’t required for them because they have a “strong relationship with their employees” or because they have “a common understanding”.

Implementing a termination clause does not undermine the employment relationship; in fact, it can have the opposite effect. Termination clauses allow for the employer and the employee to put their minds towards the entitlements of the employee and the obligations of the employer should such an event occur. It is better for both parties to have a mutual and clear understanding of the terms and conditions relative to the employment relationship so as to minimize the potential for wrongful dismissal claims and disputes down the road.

Termination clauses and their enforceability are one of the most heavily litigated areas in employment law. Between 2018 and early 2020 alone, the Ontario Superior Court of Justice and the Ontario Court of Appeal delivered several ground-breaking decisions rendering thousands of employment contracts, and their respective termination clauses, to be void and unenforceable. Employment law firms and counsel across Ontario have been busy ensuring that relevant provisions of the contracts they’ve drafted be revised in accordance with the latest changes in the common law. In effect, these developments have rendered thousands of employment agreements to be void and unenforceable, exposing employers to considerable liability in termination entitlements.

4. An enforceable rights-restricting employment agreement could mean the difference of saving your business tens of thousands in notice payments per employee

In order to understand the importance of a rights-restricting employment agreement, we must first discuss the applicable right in which a typical employment agreement aims to limit. In every non-unionized employment relationship, the employer has an implied common law obligation to give the employee “reasonable notice” of its intention to terminate the employment relationship. If the employer fails to give reasonable notice of termination, the employee can bring a wrongful dismissal action for breach of that implied term.

The purpose of providing reasonable notice is to allow the employee a period of time in which to secure alternative employment. Reasonable notice is decided with reference to key factors, otherwise known as the “Bardal factors”, which include:

• The character of the employment;
• The employee’s length of service;
• The employee’s age; and
• The availability of similar employment, having regard to the experience, training and qualifications of the employee.

In effect, the more senior an employee’s position, the longer the duration of the employment relationship, the older the age of the employee, and the lack of similar employment opportunities, all translate into a longer notice period which is implied in the employment relationship (and vice versa).

The ESA, on the other hand, sets out much lower entitlements than compared to reasonable notice implied at common law. Employers are unable to contract out of the minimum entitlements provided by the ESA, which include one (1) week per year of service to a maximum of eight (8) weeks (a.k.a. “termination pay”). For larger companies with over $2.5 million in payroll, employers may be required to pay an additional week per year of service, to a maximum of twenty-six (26) weeks, provided the employee have a minimum service of five (5) years (a.k.a. “severance pay”).

Employers will often attempt to limit their liability by providing an employee with the minimum notice period claiming it is their only obligation in accordance with the ESA. However, and for a grocery list of reasons, employers often fail, in one way or another, to sufficiently rebut the presumption of reasonable notice, which ends up costing them thousands of dollars in termination entitlements, not to mention legal fees.

Illustration:

Assume ABC Inc. operates a small business in Ontario which employs a single employee. This employee has average Bardal factors, meaning they are middle seniority, average age, and have a reasonable opportunity to find alternative employment. Let’s also assume that ABC Inc. pays the employee a salary of $50,000.00 per year. In such circumstances, the employee would be entitled to a notice period as follows:

Reasonable Notice (payable without employment agreements OR if the employment agreements are drafted improperly):

• 3 Years of Service = 4.2 months or $17,500.00
• 10 Years of Service = 11 months or $45,833.33

ESA Entitlements (payable with properly drafted employment agreements):

• 3 Years of Service = 3 weeks or $2,884.62
• 10 Years of Service = 8 weeks (plus possible severance pay, if applicable) or $7,692.31

5. Mitigate your risk; retain employment counsel and invest in employment agreements

As demonstrated in the illustration above, businesses, regardless of size or number of employees, all incur a relative risk when it comes to an employee’s termination entitlements. Even in the most modest of examples as referenced above, an employer’s obligation to their employee can mean the difference of tens of thousands of dollars depending on whether or not the employer had the appropriate agreements in place. When applied to businesses who employ ten (10) or even fifty (50) employees, the exposure only increases.

Conclusion

The takeaway for employers is simple; an employment agreement is the most important document in an employer’s arsenal, and ultimately can end up saving the business tens of thousands of dollars in severance per employee.

If your business does not currently have employment agreements in place or if your employment agreements are outdated (September 2020 or earlier), it is crucial to have them drafted/reviewed by experienced employment counsel.