Introduction
This article explains how you can best implement a bonus scheme. Bonus schemes may be categorised as either ‘contractual’ or ‘non-contractual’, but the boundaries are rarely clear.
Non-contractual bonus schemes
A discretionary bonus scheme will typically provide that a bonus is payable entirely at your discretion.
Conditions to which the bonus relates
In most discretionary schemes, the employer will decide upon certain criteria which must be achieved before a bonus is considered. For example, if an employee reaches a sales target, the employee will receive 5% of those sales. It is best practise to define the guidelines in advance – you retain discretion, but all employees have the same goals and are not unfairly treated.
The more certain the bonus or condition is, the more likely the employee is to stay with your business. Of course employees may seek to rely on pre-contractual negotiations and inducements as evidence of a binding contractual agreement.
Custom and practice
Even if the scheme is discretionary the employee may argue that they have an implied contractual right by reason of custom and practice. This is more likely the case, if for example; bonuses have been paid on a regular basis. In Noble Enterprises v Lieberum, EAT 67/98, it was suggested that an employer may not be permitted to withdraw a discretionary scheme without giving notice.
Repayable bonuses
Employers can potentially make bonuses repayable in limited circumstances. Sound odd? They are used more than you might imagine – for example, an employer may offer a "golden hello" or a “sign-on bonus” which requires the employee to repay all or part of the bonus if the employee leaves before a certain period. Of course, from an employee’s perspective, it could be argued that such a clause is a penalty clause, is a restraint of trade and is unenforceable under the equitable doctrine of forfeiture.
It is therefore essential to have such clauses drafted very carefully.
Contractual bonus schemes
On 1 October 2005, a new paragraph (e) was inserted into section 1(2) of the Employment Rights Act 1996 (ERA). Any "terms… as to pay by way of bonus" in an employment contract are deemed to include an "equality clause". The equality clause provides (so far as relevant for these purposes) that "pay by way of bonus" in respect of:
- times before the employee goes on maternity leave;
- times when she is absent on compulsory maternity leave under section 72(1) of ERA 1996; or
- times after she returns to work following statutory maternity leave;
must be paid when it would ordinarily be paid but for her having taken statutory maternity leave.
This clause seems not to be limited to cases where the amount of the bonus is determined by contract, but covers all cases where the contract contains terms as to pay by way of bonus, even if the amount of the bonus is not determined by those terms.
How to draft your bonus scheme
A carefully drafted contractual bonus scheme such as the scheme will usually contain the following provisions:
- that the employee remain in employment, not under notice of termination (given or received) on a stipulated qualification or payment date in order to receive the bonus;
- a mechanism for pro-rata payment in the years of joining and departure, or a stipulation that no payments will be made in respect of either or both of those years;
- that no bonus will be payable during any period of notice, garden leave or suspension;
- whether a bonus will form part of any agreed liquidated damages payment;
- whether or not a bonus forms part of pensionable pay and whether there is a cap on the level of bonus payment in relation to basic pay;
- whether the scheme is contractual or non-contractual. Use language consistent with definitions. Ensure all documents are consistent;
Additionally, you should:
- ensure any payment of salary in lieu clause defines which level of salary is to be used when calculating the payment;
- if bonus payments are triggered, state clearly what triggers them so that the employee is aware of when he may be entitled to a bonus;
- clarify if bonuses relate to:
- individual performance;
- individual performance and employer's financial performance;
- business or operational unit in which employee works;
- company wide performance.
- have bonus scheme approved in advance by accountant/auditor with bonus payable only on production of auditor's certificate;
- set out how bonus payment is to be determined: specific monetary figure, percentage of salary or subject to an overall maximum;
- consider provisions for bonus payment on termination of employment: ill health redundancy, misconduct, poor performance and payment during notice period or period of any garden leave;
- take instructions from the company's remuneration committee (if there is one);
Relevant Net Lawman document templates:
Bonus Scheme
Contracts of employment: General
Contracts of employment: Construction
Contracts of employment: Directors
Contracts of employment: Healthcare
Contracts of employment: Leisure
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