How to Lay Off Employees

The old adage "It's a dirty job, but someone's gotta do it" couldn't be more true when it comes to laying off employees. Here's how to do it properly.

For many entrepreneurs, the thought of having to lay off employees can be nerve-wracking. And if you're young, the act of firing an employee-especially one who may remind you of your old Uncle Stanley-can be especially daunting. You may have vivid nightmares of the scene of the termination: What if Bob goes crazy and shoots up the joint? What if Brenda cries hysterically? What if Pete sabotages the computer network?

While these may be valid concerns, the fact is that termination of employees, while almost always painful, is a vital, rejuvenating part of business life. Just read the business press, and you'll quickly realize that if you need to lay off some employees, you're not alone. So if you've already tried to fix matters using the strategies we suggested in "Restructuring a Problem Company,", you have no HR department and you don't have a security guard hanging around the office, it helps to follow in the footsteps of those who have been through it.

Step 1: Have a Strategy

The absolute worst way you can fire someone is haphazardly. It's harder on both you and the employee, and you have a greater risk of something going wrong-not to mention the risk of future litigation. So whether you are canning one lousy performer or shutting down a whole business, you need to strategize ahead of time.

A few months ago, Rafi Musher, founder and CEO of Cambridge, Massachusetts, strategic research firm Stax Research, scaled back his firm about 30 percent-and he actually wishes he would have acted sooner. "All top firms do regular, healthy pruning," says Musher, 33. "No one has a 100 percent hit rate on their hires." So he established a process of regular reviews to measure performance on a number of levels: Can the employee grow with the business and the changes in his role? How does the employee's productivity and salary level compare to that of co-workers?

According to Musher, you ideally want to continually exit the bottom 10 percent of performers on your staff, and make that policy. "If you don't think about it consciously," he says, "you won't act on it in a timely way." Worse, poor performers impact the morale of the top performers, not to mention the bottom line and the paychecks, bonuses, and stock options of everyone in the company. And there are hidden costs, too-people who aren't doing well suck up a lot of management time, so the actual cost to the company is far greater than just salary.

Step 2: Do Your Homework

One of the biggest mistakes you can make is to not prepare adequately. The last thing you want is your employees bombarding you with a bunch of questions to which you can only reply, "Um, I'll have to get back to you on that one." Here are some of the issues to consider:

  • The reason for the termination. In almost all of the 50 United States, as long as a separate employment contract doesn't exist, your staff are "employees at will." This means you can fire them at any time, for any reason, provided the termination is not based on race, religion or age. However, don't be so na├»ve that you think you don't need to offer an explanation. Says James J. Rooney, chair of the employment law division at Boston law firm Lucash, Gesmer & Updegrove LLP, "One of the best ways to avoid litigation is to handle [the termination] in a decent way." This means providing some sort of general but accurate reason for the firing.
  • Last paychecks. Your only legal obligation to your terminated employee is to pay all salary earned up to and including the termination date, plus any accrued vacation time. According to Rooney, not having that last paycheck prepared for the employee on his or her termination date is one of the biggest legal blunders a manager can make.
  • Severance. There is no legal requirement to give any severance to employees, but most professionals see it as the right thing to do. Of course, due to financial constraints, small businesses are very rarely able to be overly generous. Two weeks' pay is the norm for a small company, says Rooney, and it's rare to see more than three or four. Another common practice is to offer one week's pay for every year of service, with a two-week minimum. Generally severance packages do not include health care and other benefits.
  • Other compensation. Be clear about your intentions regarding any other compensation that may be due. Are there outstanding expenses to be reimbursed? Sales commissions to be paid? Stock options or 401(k) benefits just about to vest? You need to have all this figured out before the meeting.
  • Health insurance. In most states, you are required to offer your employees some form of COBRA, which allows them to continue (at their own expense and for a finite period of time) the same health insurance policy they had while employed by your firm. Get the required documentation from your insurance provider.
  • Complete release. Because you are not required to give your employees severance pay, says Rooney, "if you're nice enough to give [the terminated employee] some money, get something in return." That quid pro quo is a "complete release," a legal document the employee signs stating that in return for the severance package, he or she won't sue you. You can download templates of these releases from the Internet, but be sure you get one that's relatively short and readable (avoid unruly legalese), and be aware of the following clauses required by federal law:
  • If the employee being fired is over 40 years old and is not fired as part of a general layoff, you must allow him or her 21 days to sign the waiver and return it to you. In addition, the employee may change his or her mind up to seven days after the return of the waiver and revoke the agreement. Of course, you do not pay any severance until both the 21-day and seven-day waiting periods have expired.
  • If the employee being fired is over 40 years old and is fired as part of a layoff, you must allow him or her 45 days to sign the waiver and return it to you, in addition to the seven-day "cooling off" period.
  • If the employee is under 40, you do not have to offer any notice period at all, but it is still appropriate to allow the employee about a week to decide, according to Rooney. You don't need to allow time for the employee to change his or her mind after signing.
  • Individual issues. Don't think you can fire a whole group of employees without pouring over each individual personnel folder. Everyone has his or her own issues. Possibly an employee has an H1B visa and will therefore be deported if fired. Or perhaps you agreed to reimburse an employee for tuition-will you still pay the outstanding amounts?
  • Return of property. Make a list of all the company's property that may be in the hands of your employees. They are legally obligated to return it to you upon termination. Laptops, mobile phones, keys, parking passes, hardware, software, books, etc. are all to be returned as soon as possible after the separation date. If you are paying severance, hold out until you get your stuff back.
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This article was originally published in the October 2001 print edition of Entrepreneur with the headline: How to Lay Off Employees.

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