Written Employment Contracts: Pros and Cons

Know when you should -- and should not -- ask a new employee to sign a written employment contract.

There is no law that will tell you when to ask a new employee to sign a written employment contract, nor are there any hard-and-fast rules. The only thing that can be said for certain is that employment contracts are not for everyone -- or for every situation. Therefore, you should carefully look at the specifics of your situation, and weigh the advantages and disadvantages when making this decision.

A written employment contract is a document that you and your employee sign that sets forth the terms of your relationship. In addition to clearly describing what the employee is going to do for you (the job) and what you are going to do for the employee (the salary), the contract can -- if you want it to -- address a number of other issues, including:

the duration of the job (one year, two years, or indefinitely)
the specifics of the employee's responsibilities
the specifics of the benefits (health insurance, vacation leave, disability leave, and so on)
grounds for termination
limitations on the employee's ability to compete with your business once the employee leaves
protection of your trade secrets and client lists
your ownership of the employee's work product (for example, if the employee writes books or invents gadgets for you), and
a method for resolving any disputes.

Advantages of Using Contracts

Employment contracts can be very beneficial in circumstances where you want control over the employee's ability to leave your business. If the employee is a high-level manager or executive, or if the employee is especially valuable to your business (for example, the secretary who is the organizational backbone of your office), then a contract can protect you from the sudden, unexpected loss of the employee. It can lock the employee into a specific term (for example, two years), or it can require the employee to give you enough notice to find and train a suitable replacement (for example, 90 days' notice instead of two weeks).

Employment contracts can also be beneficial when the employee will be learning confidential and sensitive information about your business. You can insert confidentiality clauses that prevent the employee from disclosing the information or using it for personal gain.

Similarly, a contract can protect you by preventing an employee from competing against you after leaving your company.

Sometimes, you can use an employment contract as a way to entice a highly skilled individual to come work for you instead of the competition. By promising the individual job security and beneficial terms in an employment contract, you can "sweeten the deal," so to speak.

Finally, using an employment contract can give you greater control over the employee. For example, if the contract things specifies standards for the employee's performance and grounds for termination, you may have an easier time terminating an employee who doesn't live up to your standards.

Disadvantages

An employment contract is not a one-way street. The contract binds both you and the employee. This may pose a problem if you later decide that you don't like the contract terms and want to get out of them. The employment contract limits your ability to alter the terms of employment if the needs of your business change. If you want to change the contract terms, you'll have to re-negotiate the contract.

This means that an employee who works for you with a contract is very different from an employee who works for you without one. With the former, you must re-negotiate the contract to change any of the terms and conditions of employment (salary schedule, benefits, vacation time, and so on). With the latter, you generally have freer rein to make unilateral decisions.

For example, a two-year contract binds you as well as the employee. After six months, if you decide that you don't really need the employee after all, you can't simply terminate the employee -- this would be a breach of contract. Similarly, if the contract promise the employee health benefits, you can't later stop paying for the these health benefits as a way to save money. The only way to change the terms of the contract is to re-negotiate them. This can be done, but it's time-consuming and complicated.

Another disadvantage of using employment contracts is that they bring with them the obligation to deal fairly with the employee. In legal terms, this is called the "covenant of good faith and fair dealing." If you end up treating the employee in a way that seems unfair, you may find yourself in court.