When Is a Liquidated Damages Clause Valid in a Severance Agreement?

Employers in Georgia are under no obligation to pay an employee separation pay upon termination, but there can be good reasons for doing so — among them the employee’s acceptance of restrictive covenants such as non-compete, non-solicitation and confidentiality agreements. By tying severance pay to such agreements, employers can protect their legitimate business interests in return for offering employees a financial benefit during their transition.

Such agreements must comply with the Georgia Restrictive Covenants Act (GRCA). Enacted in 2011, the GRCA allows employers to enforce restrictive covenants that are designed to protect business interests, such as trade secrets, confidential information, customer relationships and workforce stability. However, these covenants must meet these specific criteria to be enforceable:

1. Reasonableness in time — The duration of the restriction must be reasonable, typically limited to a period necessary to protect the employer’s interests.
2. Geographic scope — The geographic area covered by the covenant must be no broader than necessary to protect the employer’s business operations.
3. Scope of activity — The restricted activities must be narrowly tailored to prevent competition or solicitation that would harm the employer’s legitimate business interests.

Importantly, the GRCA allows courts to modify overbroad restrictive covenants to make them enforceable, a practice known as “blue-penciling.” This approach offers employers greater confidence that their restrictive covenants will be upheld if they adhere closely to the law’s requirements.

Employers may further strengthen restrictive covenants in severance agreements by including a liquidated damages clause. This clause specifies a predetermined amount of damages that an employee must pay if they violate the agreement. In Georgia, liquidated damages clauses are enforceable if they satisfy three key conditions:

1. Difficulty in estimating damages — At the time of contracting, the potential harm resulting from a breach must be difficult or impossible to quantify accurately. This uncertainty justifies setting a predetermined amount.
2. Intent — The clause must aim to compensate the employer for potential losses rather than serve as a penalty against the employee. If the amount appears punitive, courts may decline to enforce it.
3. Reasonableness — The stipulated damages must reflect a reasonable approximation of the anticipated loss. Excessively high or disproportionate amounts may lead to a determination that the clause is an unenforceable penalty.

Drafting severance agreements that comply with the GRCA and include enforceable restrictive covenants and liquidated damages provisions requires precision. Employers should engage an experienced employment contracts attorney to ensure that agreements are carefully tailored to protect their business interests without imposing undue hardship on employees. Legal counsel can also assist in negotiating and revising agreements to address potential disputes and ensure compliance with law.

With a proven record of success in Georgia business and employment negotiation, the Reddy Law Firm, P.C. in Alpharetta can guide you through the process of creating, enforcing and resolving legal issues surrounding employment contracts. To arrange a consultation, call 678-629-3246 or contact us online.