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If You Include a Termination Notice Period in a Contract, Don’t Forget the PILON

Most U.S. offer letters and employment agreements are “at-will.” Contractual termination notice periods (for example, a requirement that the employer must give the employee at least 30 days’ written notice of termination) are rare. Notice provisions are much more common in foreign employment agreements, where local laws often require a minimum amount of termination notice to be given by an employer. Termination notice periods also arise both in the U.S. and abroad in other types of agreements, such as consulting agreements. When notice provisions are used, an employer should also think about whether to include a PILON.

When I started my career as a trainee lawyer in London, I was asked to draft an employment agreement. After giving me a list of terms to included, the partner added “don’t forget to include a ‘pile on’.” I had no idea what a “pile on” was, but it didn’t sound particularly pleasant for the employee. After about five minutes of Googling, I realized that she was referring to a PILON, which is an acronym for “payment in lieu of notice.” A PILON is a clause in the contract that gives the employer the option to cut out the notice period and make a termination effective immediately by making a payment equivalent to what the employee would have earned during the notice period.

Why is it important to include a PILON as a contractual right? If you leave it out, couldn’t an employer still terminate immediately and just make a payment to satisfy any breach of contract resulting from the failure to let the notice period run its course? The answer to the second question is technically yes. But going down this route (as opposed to using a contractual PILON clause) can have some significant negative consequences for an employer. For example, the damages claim for a breach of a notice clause might include not only base wages, but also the value of any bonuses, commissions, benefits, and other compensation that would have accrued or been earned during the notice period had it not been for the breach of contract. Further, for individuals with incentive compensation with vesting provisions, damages for breach of contract could also include anything that would have vested during the notice period. By including a PILON clause that gives the employer a contractual right to terminate immediately and that specifies how the payment should be calculated (e.g., restricting the PILON to salary that would have been earned during the notice period and excluding other compensation), some of these issues can be avoided. Furthermore, in certain jurisdictions, a termination in breach of a contractual notice provision can invalidate the rest of the contract and undermine the enforceability of other key provisions, such as non-compete and non-solicit restrictions.

For these reasons, whenever a notice provision is included in a contract, careful thought needs to be given to whether a PILON right should also be included, and how that provision should be drafted.

This information is provided by Vinson & Elkins LLP for educational and informational purposes only and is not intended, nor should it be construed, as legal advice.