Pros and Cons of Written Employee Contracts

Hiring new employees is a big step for small businesses. When hiring employees, you may consider an employee contract to protect your company and your employees. You don’t always need an employment contract. There is no legal requirement for a written employment agreement for every employee. However, in some situations, an employment contract is essential for defining the employment relationship between worker and employer.

This article focuses on the advantages and disadvantages of written contracts for small business owners. See FindLaw’s The Hiring Process section for more related articles.

Types of Employment Contracts

There are many types of employment contracts. C-suite executives or intellectual property creators need clauses specifying product ownership and severance packages. Small businesses need standard job agreements with basic clauses about terms and conditions of employment.

Standard Employment Contract

A basic contract contains the job description, the start date, the starting pay rate or salary, and the job title. The contract must conform to the union requirements if it is part of a collective bargaining agreement. If you use an employment contract template, you should remove any clauses that do not apply to your business. Otherwise, you may be bound by the terms.

A standard contract may include:

• The term of employment, if there is a completion date
• Employee benefits, such as health insurance or 401(k) participation. Some states require employers to provide disability insurance. Check with an employment law attorney.
• Disciplinary policies and grounds for termination
• Nondisclosure or noncompete clauses
• Dispute resolution clause, specifying arbitration or mediation

At-Will Employment

Every state except Montana recognizes at-will employment. In at-will employment, the employer or employee may terminate the work relationship at any time for any reason without any penalty. Workers do not have to give two weeks’ notice or stay to train a replacement. Employers may terminate workers for any reason or with no reason given.

An at-will contract is identical to a standard employment contract, except it contains a clause specifying that the state is an at-will state, and the contract does not include the protections of a union or collective bargaining agreement. Both employer and employee agree that the employment is "at-will," and either party may terminate the arrangement at any time.

At-will contracts are useful because employees are still bound by other contract terms, such as confidentiality agreements. Other federal and state laws about termination still protect employees. Even in an at-will state, employers cannot terminate an employee based on race, religion, gender or gender preference, or national origin. A contract ensures that at-will employees have legal protection against wrongful termination.

Employee Contracts: Pros

In today’s volatile employment climate, employees are looking for job security. A contract that spells out job requirements and grounds for termination provides what workers seek. Set pay scales and opportunities for promotion create an environment of trust between employees and employers.

Other advantages to written employment contracts include:

• Confidentiality Agreements: Written contracts protect trade secrets by advising employees of legal action if there is a data breach or disclosure. A confidentiality agreement can be separate from the standard contract or appended if the worker moves to a new position that puts them in contact with sensitive information.
• Noncompete Agreements: Written contracts often include noncompetition clauses. A covenant not to compete prevents workers from working for a competitor or starting a new business in direct competition with yours. These clauses must be narrowly crafted so workers can still work in their field.
• Grounds for Departure or Termination: A written contract limits employees’ ability to leave without notice or penalty. Rather than making these clauses punitive, employers may make remaining with the company attractive, such as severance pay after a certain period. You also protect yourself with a clear discipline and termination policy. Laying out and following steps from violation to termination prevents claims of discrimination or wrongful termination.

Employee Contracts: Cons

An employment contract runs both ways. Both the employer and employee have rights and responsibilities under a contract. Once you sign the contract, you are bound by the terms of the agreement until it ends or unless the other party breaches it. You should have your employee contract reviewed by an employment law attorney before signing it or presenting it to a new hire for their signature.

Remember, an employee agreement is a contract. Whatever is not in the contract does not exist if the case goes to court. You can remedy this by ensuring your contract references your employee handbook.

The handbook should contain all company policies not mentioned in the agreement. For instance, if you have a confidentiality clause in the contract, it should state, "See the employee handbook for additional details" and reference the page number. Otherwise, your confidential information is limited to whatever you put in the contract.

Other downsides to having a written contract can include:

• Limiting Your Ability To Change the Terms of Employment: Once both parties sign the contract, they must agree before any terms change. Although state laws generally allow an employer to terminate an employee during their probationary period, you will not have that luxury after that.
• Contract Terms Must Be Perfect: Unless you know your employee contract template is flawless, you should have an employment law attorney review it before your employees sign. That can be expensive.

Independent Contractor Agreement

The rise of remote work has led to more small businesses using freelancers and independent contractors for part-time work or full-time projects with a set end date. If you decide this is a good idea for your business, keep a few things in mind.

• Independent contractors are not employees. Misclassifying a contractor when they are an employee can land you in trouble with the IRS. An independent contractor is taxed differently and falls under a separate category in labor law guidelines.
• Your agreement will differ in the amount of control you have over the contractor. The IRS guidelines focus on the control the employer has over the worker’s hours of work, benefits, pay, and many other factors.
• If you place too many restrictions on when and how the contractor does their work, they may become employees, even if you did not intend it.

Get Some Legal Advice

A well-written employment contract is a benefit to small business owners, but it can be risky. Before writing any employment contract or other employment agreement, contact a local employment law attorney to review your contract needs.