The impact of mental incapacity on Records of Settlement

In June 2022, the Supreme Court released its decision in TUV v Chief of New Zealand Defence Force [1]. The Court was asked to consider whether a Record of Settlement (settlement agreement) was enforceable where one party was affected by mental incapacity when they entered into the agreement. The other party had no knowledge of that incapacity, and the agreement was signed off by a mediator under the Employment Relations Act, section 149. 

The background to this case involved an employee who claimed she was bullied and harassed while employed by the New Zealand Defence Force (the Defence Force). She wished to pursue a claim for unjustified dismissal.  

As is common in workplace disputes, an employer and employee may reach agreement, with or without mediation assistance, to resolve the issue. A settlement agreement is legally binding and enforceable on the parties. A party may only bring the terms of a settlement agreement within the employment jurisdiction to enforce compliance with it. It cannot be cancelled due to repudiation, misrepresentation or breach. 

In TUV v NZ Defence Force, the employee and the Defence Force agreed to settle her claims, by entering into a settlement agreement.  

The Employment Relations Act, s149 provides that settlement agreements must be signed by a mediator of the Ministry of Business, Innovation and Employment (MBIE), at the request of both parties, following the mediator explaining to the parties that the terms are “final and binding” and being satisfied that the parties know the effect of this. Once signed by the mediator, the terms contained within the settlement agreement are final and binding, and enforceable in the employment jurisdiction. 

The issue before the Court was whether the employee could set aside the settlement agreement on the basis of her claim that she did not have mental capacity at the time she signed the agreement.  

Earlier decisions of the Employment Court and Court of Appeal held while finding the employee lacked capacity, the settlement agreement was not set aside because the employer did not know and was not put on notice as to her incapacity. 

The majority of the Supreme Court held that: 

• The contract law test in O’Connor v Hart applies to mediated settlement agreements in the employment jurisdiction. This test holds that a contract is not voidable for mental incapacity unless the other contracting party knows or ought to know of the incapacity or equitable fraud is established. 
• The Employment Relations Act 2000 governs the enforceability of employment settlement agreements, not the Protection of Personal and Property Rights Act. 

In applying the test in O’Connor v Hart, the Court held that the settlement agreement was enforceable. The other party (employer) did not have actual or constructive knowledge that the employee lacked capacity when entering into the agreement. 

While the courts made clear that a settlement agreement could be set aside, this case shows the difficulty in attempting to do so. Before signing a settlement agreement, parties should ensure that they seek specialist employment law advice, so that they fully understand the contents of the agreement and its legal effect. 

The team of specialist employment lawyers at DTI Lawyers are experts in negotiating, drafting and enforcing Records of Settlements. Please don’t hesitate to contact us on 07 282 0174, or reception@dtilawyers.co.nz