Employment Bonds In India: Supreme Court Clarifies Legality Of Lock-In Clauses
Overview
The Supreme Court of India, by its judgement dated May 14, 20251, set a landmark ruling on the validity of lock-in clauses and related indemnity bonds in employment contracts of public sector undertakings. It examined the validity of indemnity bonds and lock-in periods in the context of agreements in restraint of trade and relevance of public policy considerations enshrined in the Indian Contract Act, 1872 ("Act").
Background
In 2006, a public-sector bank ("Bank") issued a recruitment notification for multiple services requiring selected candidates to execute an indemnity bond of INR 2,00,000/- (Indian Rupees two lakhs only) payable to the Bank in the event the appointed employee ("Employee") quits service before completion of the lock-in period of 3 (three) years. The Employee's appointment letter stipulated the same condition. In 2009, before the completion of the said lock-in period, the Employee resigned from the Bank and under protest, paid the amount prescribed in the indemnity bond to the Bank.
Subsequently, the Employee challenged the relevant clauses before the High Court of Karnataka and received a favourable order on the grounds that the said clauses were in restraint of trade and against public policy under the Act and thereby in violation of his right to equality guaranteed under the Constitution of India. The Bank appealed against the order of the High Court before the Supreme Court of India.
Supreme Court's Findings
The Supreme Court, allowing the appeal by the Bank, reversed the order of the High Court of Karnataka and upheld the enforceability of lock-in periods and indemnity bonds in employment contracts, particularly in public sector undertakings based on the following key considerations:
- No Restraint of Trade: A restrictive covenant during the subsistence of an employment contract does not amount to restraint of trade under the Act. In the present case, the said clause did not operate as a restraint of trade as the intention was to deter premature resignation and not to restrain future employment of the Employee.
- Quantum of Liquidated Damages: The quantum of liquidated damages - INR 2,00,000/- (Indian Rupees two lakhs only) - was upheld as proportionate and serving a legitimate purpose of compensating the Bank for the operational and financial disruptions caused by premature resignations by its employees.
- Public Policy Consideration: Public policy relates to public good and public interest, evolving with time. The insertion of a lock-in period and liquidated damages to ensure retention of skilled employees and to maintain operational efficiency cannot be considered as unconscionable, unfair or unreasonable, and did not contravene public policy considerations under the Act.
Implications and Way Forward
The judgment provides much needed judicial clarity on the enforceability of employment bonds and lock-in periods, particularly in sectors where employee training and retention are critical. It affirms that such clauses when reasonable, proportionate and transparently disclosed do not amount to restraint of trade or violation of public policy. Employers may therefore rely on structured lock-in and indemnity arrangements to ensure workforce stability, while employees remain protected from unfair or punitive obligations. The judgement underscores the importance of adopting a balanced approach in assessing the validity of restrictive clauses, taking into account both the employee's rights and the employer's legitimate business interests.
Footnote
1 Vijaya Bank and Another v. Prashant B Narnaware, 2025 SCC Online SC 1107.
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