ERA reforms in depth: Unfair dismissal reforms

The reduction of the qualifying period from two years to six months is due to take effect from 1 January 2027. Until then, the current two-year qualifying period will continue to apply albeit there will, in effect, be a transition period as any employee who reaches six months’ service on or after 1 January 2027 will immediately benefit from unfair dismissal protection.

It is not yet clear when the unfair dismissal compensation cap will be removed. It seems likely that the cap will be removed at the same time as the reduction of the qualifying period, but this is not guaranteed.

Current position

There is currently a two-year qualifying period before an employee can bring an ordinary unfair dismissal claim – this means that (in most instances) an employer has more flexibility in the process that it chooses to use when dismissing an employee during their first two years’ service.

Compensation for ordinary unfair dismissal claims is capped. The current cap is 52 weeks’ gross pay or £118,223, whichever is lower. Compensation for discrimination claims and certain automatic unfair dismissal claims (including whistleblowing dismissal claims) is uncapped.

What’s changing?

Notwithstanding the government’s change of tack on ‘day one’ unfair dismissal rights (as outlined above), the Act still contains two significant reforms to ordinary unfair dismissal rights. These are:

• The qualifying period for ordinary unfair dismissal claims will be reduced from two years to six months.
• The cap on compensation for ordinary unfair dismissal claims is set to be removed in its entirety.

The news that the government had rowed back on its plans to make unfair dismissal a ‘day one’ right was welcomed by many, including various bodies representing employers. Some of the potential headaches that may have been caused by employees immediately benefitting from unfair dismissal rights and the proposed ‘lighter touch’ process that employers would have been permitted to follow for capability and conduct dismissal in the initial period of employment have now been avoided. However, the reduction to the qualifying period remains a significant change – many more employees will benefit from this protection and it will significantly change the risk profile of dismissals that take place between six months and two years of service, unless employers take appropriate steps to change their processes.

Given the major increase in the number of employees eligible to bring ordinary unfair dismissal claims, we are likely to see an increase in the number of these claims being issued. It is unclear what this expansion means for the already overloaded employment tribunal system, but the government has indicated that it intends to work with businesses and trade unions to review the tribunal system and create a tribunal process that is “fairer and faster”. In addition, one of the government’s aims in removing the compensation cap for ordinary unfair dismissal claims is to remove what it calls the “systemic incentive” for claimants to construct whistleblowing and discrimination claims in order to bypass the cap. The government’s view is that this should help to decrease the burden on the tribunal system. Whether or not the broadening of ordinary unfair dismissal rights will in fact result in fewer whistleblowing and/or discrimination claims being issued remains to be seen. All eyes will be on the tribunal statistics in the months and years after the reform comes into effect.

To help mitigate the risk of claims, employers should:

• ensure that they have robust recruitment and on-boarding procedures in place, to minimise recruitment mistakes.
• review their probationary processes to make sure that these are clear and well-communicated, with line managers proactively identifying and managing any performance or conduct issues that arise in the early stages of employment.
• review probationary policies and contractual wording on probationary periods. There are important nuances to consider as part of this – for example, employers who operate enhanced sick pay arrangements may want to consider how these entitlements link with the probationary period. Separately, it is also important to consider the length of the probationary period and how any extensions of probation might operate – if the employee is dismissed once they have six months’ service or, in some cases, when their statutory notice period would tip them over that six-month mark, they will have full unfair dismissal protections. Carrying out thorough and timely probationary reviews will be crucial.
• run additional line manager training to ensure that they can confidently deal with issues at all levels of the organisation and, where relevant, can effect fair dismissals. The focus of this training should be two-fold – a) effective management during the probationary period to ensure that any issues are identified and appropriately addressed, including (where necessary) via dismissal before the employee attains qualifying service, and b) training on the full processes that will need to be carefully followed for any employee who has attained qualifying service.  

In many cases, the removal of the compensation cap for unfair dismissal claims will not change the amount awarded by a Tribunal (given the claimant’s duty to mitigate their loss). In a House of Commons debate about the removal of the cap, the government cited the median award for unfair dismissal compensation, which it said for 2023-24 was £6,746, as evidence of very few compensatory awards getting near to the existing cap.

This reform will nevertheless have significant implications for claims brought by high earners and/or those with significant employment-related benefits (such as generous pension entitlements) and for many exit negotiations and settlement discussions as employees’ and claimants’ expectations may be harder to manage. In our view, there are a host of potential knock-on effects of this reform. These could include:

• much greater emphasis on mitigation evidence in unfair dismissal claims, in order to demonstrate when the claimant ought to have mitigated their losses by, for example, obtaining a new job on a similar level of pay.
• increased focus on Polkey reductions (which can apply in situations where there was an error in the dismissal process, but a fair dismissal could have been arrived at had a fair process been followed) or contributory fault reductions (where the claimant’s own conduct was partly or wholly to blame for the dismissal), to reduce the amount of the compensation award.
• more investigation into and evidence of certain types of losses, such as pensions losses and other more complex losses. In some cases, this might require expert evidence.
• an increase in the number of claimants alleging career-long or long-term losses arising from their dismissal, for example where a claimant is relatively near to retirement or has experienced ill health as a result of their dismissal.
• more complex exit negotiations with high-earning employees and executives. The risk profile of a potential dismissal of a senior or well-paid employee may, in some cases, increase significantly, which should inform the employer’s approach to performance, conduct, redundancy or other issues and any resulting settlement discussions.

As outlined above, employers are likely to see an increase in unfair dismissal allegations or disputes, including potentially from high earners. A different approach is likely to be needed in some settlement discussions, and, for senior exits, it will be crucial to prepare fully and lay the groundwork before entering into any discussions with the individual. Legal advice at this early stage will really make a difference and can help to reduce the likelihood of settlement discussions spiralling or stalling.