EMPLOYMENT AGREEMENT


         This Employment Agreement made and entered into effective as of August
16, 1999, by and between Datakey, Inc., a Minnesota corporation (the "Company"
or "Datakey"), and Timothy L. Russell ("Executive").

                                    RECITALS

         Executive has recently been named the Vice President and General
Manager ("VP/GM") of the Company's Integrated System Solutions ("ISS") business
unit. The Company and the Executive are desirous that the Executive continue to
serve the Company in this capacity under the following terms and conditions.


                                    AGREEMENT

1.       Employment

         a. Datakey agrees to continue to employ Executive on a full-time basis
as the Vice President and General Manager, ISS.

         b. Executive agrees that he will, at all times, faithfully,
industriously, and, to the best of his abilities, experience and talents,
continue to perform all the duties and responsibilities that may be required of
him as an officer of Datakey.

2.       Term of Employment

         a. Subject to the terms and conditions hereof, Executive shall be
employed for a term ("Employment Term") commencing on August 16, 1999 and
terminating on August 15, 2000 unless extended as set forth in Subsection 2b
below.

         b. This Agreement will be renewed automatically after August 15, 2000
for additional one-year periods unless either party gives the other party
written notice 30 days before August 16, 2000 or 30 days before the end of any
one-year period thereafter of his or its intention to terminate the Agreement.

3.       Base Monthly Compensation

         As compensation for his services to Datakey, Executive shall be paid a
monthly salary of $9,583.33, plus salary increases, if any, approved by the
Board of Directors and documented in the Executive's personnel and/or payroll
records, payable in accordance with Datakey's periodic payment periods.

4.       Bonus

         Executive shall be eligible for a quarterly performance bonus of
$20,000 plus increases, if any, approved by the Board of Directors and
documented in the Executive's personnel and/or payroll records. The performance
bonus shall be based upon achievement of certain objectives agreed upon in
advance between executive and the president and CEO of Datakey. During the
initial term of this agreement Executive shall receive 50% of the quarterly
bonus ("Guaranteed Bonus") without regard to achieving the agreed upon
objectives. Executive will also participate in Datakey's Long-Term Incentive
Plan.

5.       Other Benefits

         During the term of this Agreement, Executive will be eligible to
receive certain other benefits described in the attached Exhibit A, subject to
such changes as Datakey may adopt from time to time for officers of the Company
and salaried employees generally.

6.       Termination

         a. Notwithstanding Section 2 above, the Employment Term or any
extension thereof shall terminate upon the happening of any of the following
events:

                  (i) Mutual written agreement between the Board of Directors of
                  Datakey and Executive to terminate his employment;

                  (ii)     Executive's death;

                  (iii) Executive's disability, defined as physically or
                  mentally unable to perform his duties as an officer of the
                  Company for a period of six consecutive months, as determined
                  by a mutually agreeable physician; or

                  (iv) For cause (as defined below) upon written notice from the
                  Board of Directors specifying the nature of the cause.

         b. For purposes of this Agreement, "cause" shall include the commission
of any felony, gross misdemeanor, or any act of fraud in connection with the
affairs of Datakey.

7.       Payment Upon Termination of Employment for Cause or Voluntary
         Resignation

         If Executive is terminated for cause or voluntarily resigns, Executive
shall not be eligible to receive any severance benefits except as specifically
agreed to at time of termination. The date of termination under this Section 7
shall be on the day the notice of termination for cause is given or 30 days from
the date the notice of resignation is given. Executive shall be entitled to no
additional compensation past the date of a notice of termination for cause or
after 30 days from the notice of resignation.

8.       Payment Upon Termination of Employment Without Cause or Termination
         Upon Failure to Renew

         a. If, during the term of this Agreement Executive is terminated
without cause, and without cause shall include death, disability or mutual
agreement, or if the Company fails to renew the Agreement as of August 16, 2000,
or at the end of any one-year extension, Executive shall not be entitled to
receive his agreed compensation for the balance of the term of this Agreement
but shall instead receive a severance payment equal to his base monthly
compensation payable for six months in accordance with Datakey's payroll periods
beginning the first month following the last month of his employment term, plus
quarterly bonus payments for two quarters, each quarterly payment equal to the
average quarterly bonus paid during the prior four quarters.

         b. Base compensation shall be deemed to be the amount of current
compensation on the date of termination reflected in the Company's personnel
files but, in any event, no less than $9,583.33 per month.

         c. The payments provided for under this Section 8 shall, in the event
of Executive's death, continue and shall be payable to his wife if she survives
or, if not, to his estate.

         d. The Company will continue to provide medical and health coverage,
under its plans as they currently exist or may hereafter be amended, at Company
subsidized rates during the six-month severance pay period. Thereafter,
Executive and his covered dependents will be entitled to elect to continue
coverage under COBRA to the extent it is available. Coverage by the Company or
under COBRA will end on the earlier of Executive's obtaining new employment,
which gives him the ability to provide medical and health insurance coverage for
himself and his family through his new employer, or the failure to pay any
premium when due. In addition, the supplemental life and disability insurance
and auto allowance as listed on Exhibit A will continue for six months at
Company expense.

9.       Termination of Employment or Resignation Within Twelve Months of a
         Change in Control

         a. If Employee's employment is terminated within twelve months of a
Change of Control, or if Employee resigns within twelve months of a Change of
Control because of a material diminution of position responsibilities or
remuneration or relocation of 50 miles or more in work location, notwithstanding
such termination or resignation, Employee shall receive his base monthly
compensation for a period of twelve months in accordance with Datakey's payroll
periods beginning the first month following Employee's termination or
resignation in accordance with the Company's payroll periods, plus quarterly
bonus payments for four quarters, each quarterly payment equal to the average
quarterly bonus paid during the prior four quarters.

         b. The Company will continue to provide medical and dental coverage,
under its plans as they currently exist or may hereafter be amended, at Company
subsidized rates during the twelve month severance pay period, provided
Executive elects to extend such medical and dental coverage under COBRA.
Thereafter, Executive and his covered dependents will be entitled to elect to
continue coverage under COBRA, at his own expense, to the extent and for as long
as it is available. Coverage by the Company or under COBRA will end on the
earlier of Executive's obtaining new employment, which gives him the ability to
provide medical and health insurance coverage for himself and his family through
his new employer, or the failure to pay any premium when due. In addition, the
supplemental life and disability insurance and auto allowance as listed on
Exhibit A will continue for twelve months at Company expense.

         c. A Change in Control shall be deemed to have occurred if: (a) any
person or entity not currently a shareholder of the Company becomes the
beneficial owner of thirty-five percent (35%) or more of the Company's
outstanding securities other than any institution, individual, individuals
acting in concert, or entity owning thirty-five percent (35%) or more of the
Company's outstanding securities as of the date of this Agreement; (b) the
consummation of a merger or consolidation of the Company into or with any other
corporation; (c) the consummation of a plan of complete liquidation of the
Company; or (d) the consummation of the sale of substantially all of the
Company's assets.

         d. The payments provided for under this Section 9 shall, in the event
of Employee's death, continue and be payable to his wife if she survives or, if
not, to his estate.

10.      Nondisclosure

         Except by written permission from Datakey, Executive shall never
disclose or use any trade secrets, sales projections, formulations, customer
lists or information, product specifications or information, credit information,
production know-how, research and development plans or other information not
generally known to the public ("Confidential Information") acquired or learned
by Executive during the course, and on account, of his employment, whether or
not developed by Executive, except as such disclosure or use may be required by
his duties to Datakey, and then only in strict accordance with his obligations
of service and loyalty thereto. Upon termination of employment, Executive agrees
to deliver to Datakey all Confidential Information.

11.      Inventions

         Any invention, discovery, improvement, or idea, whether patentable or
copyrightable or not, and whether or not shown or described in writing or
reduced to practice ("Invention") shall be promptly and fully disclosed by
Executive to the Company, and the Company will hold in trust for its sole right
and benefit, any Invention that Executive, during the period of employment, and
for one year thereafter, make, conceive, or reduce to practice or cause to be
made, conceived, or reduced to practice, either alone or in conjunction with
others, that:

         a. Relates to any subject matter pertaining to Executive's employment
with the Company;

         b. Relates to or is directly or indirectly connected with the Company's
business, products, projects, or Confidential Information; or

         c. Involves the use of any time, material, or facility of the
Company's.

         Executive hereby assigns to the Company all of his right, title, and
interest in and to all such Inventions and, upon the Company's request, shall
execute, verify, and deliver to the Company such documents including, without
limitation, assignments and applications for Letters Patent, and shall perform
such other acts, including, without limitation, appearing as a witness in any
action brought in connection with this Employment Agreement that is necessary to
enable the Company to obtain the sole right, title, and benefit to all such
Inventions.

12.      Specific Performance

         Executive acknowledges that a breach of this Employment Agreement would
cause Datakey irreparable injury and damage which could not be remedied or
adequately compensated by damages at law; therefore, Executive expressly agrees
that Datakey shall be entitled, in addition to any other remedies legally
available, to injunctive and/or other equitable relief to prevent a breach of
this Employment Agreement.

13.      Noncompetition

         a. Executive will not, directly or indirectly, alone or in any capacity
with another legal entity, (i) engage in any activity that competes in any
respect with Datakey, (ii) contact or in any way interfere or attempt to
interfere with the relationship of Datakey with any current or potential
customers of Datakey, or (iii) employ or attempt to employ any employee of
Datakey (other than a former employee thereof after such employee has terminated
employment with the Datakey), for the following periods:

                  (i) six months if the termination is without cause or upon
                  failure to renew under Paragraph 8; or

                  (ii) twelve months if the termination is for cause or
                  voluntary resignation under Paragraph 7; or

                  (iii) twelve months if the termination is covered by Paragraph
                  9.

         b. Executive acknowledges that Datakey markets products throughout the
United States and that Datakey would be harmed if Executive conducted any of the
activities described in this Section 13 anywhere in the United States.
Therefore, Executive agrees that the covenants contained in this Section 13
shall apply to all portions of, and throughout, the United States.

         c. Executive acknowledges that if he fails to fulfill his obligations
under this Section 13, the damages to Datakey would be very difficult to
determine. Therefore, in addition to any other rights or remedies available to
Datakey at law, in equity, or by statute, Executive hereby consents to the
specific enforcement of the provisions of this Section 13 by Datakey through an
injunction or restraining order issued by the appropriate court.

         d. To the extent any provision of this Section 13 shall be invalid or
unenforceable, it shall be considered deleted herefrom and the remainder of such
provision and this Section 13 shall be unaffected and shall continue in full
force and effect. In furtherance to and not in limitation of the foregoing,
should the duration or geographical extent of, or business activities covered
by, any provision of this Section 13 be in excess of that which is valid and
enforceable under applicable law, then such provision shall be construed to
cover only that duration, extent or activities which are validly and enforceably
covered. Executive acknowledges the uncertainty of the law in this respect and
expressly stipulates that this Section 13 be given the construction which
renders its provisions valid and enforceable to the maximum extent (not
exceeding its expressed terms) possible under applicable laws.

14       Miscellaneous

         a. Waiver by Datakey of a breach of any provision of this Agreement by
Executive shall not operate or be construed as a waiver of any subsequent breach
by Executive.

         b. This Agreement shall be binding upon and inure to the benefit of
Datakey, its successors and assigns, and as to Executive, his heirs, personal
representatives, estate, legatees, and assigns.

         c. This Agreement constitutes the entire agreement between the parties
hereto with respect to the subject matter hereof and supersedes all prior
agreements whether written or oral relating hereto.

         d. This Agreement shall be governed by and construed under the laws of
the State of Minnesota.

         IN WITNESS WHEREOF, the parties have hereto executed this Employment
Agreement effective as of the day and year first above written.

                                        DATAKEY, INC.


                                        By    /s/ Carl P. Boecher
                                        Carl P. Boecher, President



                                         /s/ Timothy L. Russell
                                        Timothy L. Russell, Executive



<PAGE>



                                    EXHIBIT A
                                       TO
                   EMPLOYMENT AGREEMENT DATED AUGUST 16, 1999


                               EXECUTIVE BENEFITS


--       Group health, dental, life and disability insurance, 401K plan, 125
         plan and other benefits as provided to all employees

--       Supplemental life insurance in the amount of $200,000, based upon
         standard rates and underwriting decisions regarding medical history,
         paid 100% by the Company

--       Supplemental long-term disability insurance paying up to $4,000 per
         month based upon standard rates and underwriting decisions regarding
         medical history, paid 90% by the Company

--       Auto allowance of $500 per month

--       Four weeks of annual vacation; unused vacation cannot be carried over

--       Sick leave as needed, up to 90 days at the discretion of the CEO

--       Comprehensive annual physical examination at Park Nicollet Executive
         Health Center paid by the Company

--       Up to $6,000 to be applied only to outplacement counseling of
         Executive's choice and paid directly to the outplacement counselor