- What is the entitlement?
- What does ‘discretionary’ mean?
- Fixed bonus
- Fixed share of pool
- Formula-based bonus
- Floored bonus
- Sign-on bonus / Golden handshake
- What is the effect of garden leave?
- What if someone is working out their notice period?
- What if someone is suspended?
- What if they are paid in lieu of notice?
- Good leaver v Bad leaver
- Is a bonus ever repayable?
- Regulatory framework, Corporate Governance & Remuneration Codes
- Bonus dispute
- Discrimination & Equal Pay
What is the entitlement?
Whether an individual is entitled to a bonus and the level of that potential bonus may be set out in a contract, bonus scheme, side agreement and/or offer letter. Alternatively, it may not be set out in writing but could be based on an oral promise or ‘custom and practice’; both of which are possible to establish albeit more difficult to evidence.
The amount that an individual may be entitled to will depend on the character of the bonus e.g. discretionary, fixed, partially discretionary, formula-based, within set parameters; see below for more details.
What does ‘discretionary’ mean?
If a bonus is fully, absolutely or wholly discretionary then on the face of it (see below) the employer will have freedom to choose whether to pay a bonus and, if so, what amount. If it is partially discretionary then part may be fixed or formulaic and part may be discretionary or it may be a blend e.g. formulaic but also discretionary.
By way of examples: the discretionary element of the bonus could be dependent on the individual’s performance against a range of different criteria and/or it could be dependent on the employer’s or a department’s performance.
A bonus may be expressed to be wholly, fully or absolutely discretionary but in reality is not at all discretionary or only partially discretionary. This situation could come about as a result of other terms relating to the bonus, side terms (specified in writing or orally) or ‘custom and practice’. It is very rare for a bonus not to be the result of some form of assessment.
There is now case law that an employer must not exercise a discretion irrationally or perversely. This “fetter” applies automatically and irrespective of whether it is expressly outlined in the terms.
An individual may be given a fixed bonus i.e. a bonus of a fixed amount in a fixed form (e.g. cash, share options, shares) by their employer. For example, this could be set out in a contract, offer letter, bonus agreement or other. This will not necessarily mean that it is an unconditional or guaranteed bonus but, if the conditions are met, then it should be clear what they are getting.
Fixed share of pool
It may be that a number of people are grouped in a bonus ‘pool’ and their entitlement will be dependent on their share of the pool. The pool itself could be fixed, formulaic, discretionary and/or floored. For example, a management team of five could be awarded equal 20% shares in Bonus Pool A; and Bonus Pool A could be variable depending on revenue growth, assigned costs and year-end profit.
Many employers will provide for formulaic bonuses which are likely to be contingent on a number of factors. For example, deals completed, orders received, contracts signed, fees invoiced, the profit on a trading account, appraisal/performance, the employer’s performance. Invariably, if the formula is based on remuneration due to the employer (e.g. from orders received), a key factor will be if and when the employer has received the money or benefit in question.
It is increasingly common for bonuses to be dependent on a number of different factors such as graded performance and the employer’s and/or a department’s profit. This means that often an individual will be able to anticipate what level their bonus will be at. If there is a set formula and the sums are not paid within the relevant time period then the individual may need to seek legal advice.
A formula-based bonus may be capped at a certain amount although a cap can alter the incentive and be counterproductive for the employer.
An individual’s bonus may have a floor i.e. a lower/minimum threshold. For example, an employee could be on an annual, formulaic bonus scheme but be told in their contract, correspondence or the scheme itself that they will not receive less than “£X” for that year. This floored bonus amount is still likely to be conditional on other factors (e.g. active employment and/or the performance of the employer).
Sign-on bonus / Golden handshake
An employer may choose to offer a sign-on bonus or “golden handshake” to entice them to join and/or compensate them for giving up remuneration that they would have received if they stayed with a previous company. The terms of the sign-on bonus will sometimes provide that the individual has to re-pay the sum (gross or net) if they leave the role (e.g. for any reason other than redundancy or ill-health) within “X” amount of time (e.g. one year) this is sometimes known as a “golden handcuffs” deal. In addition, the payment of the sign-on bonus may be staggered (e.g. £X1 will be paid within one month of your start date and £X2 will be paid in your 13th month of employment).
What is the effect of garden leave?
Bonus terms normally specify what will happen if an employer puts an individual on garden leave after notice is given (by either party). Most frequently, the bonus will no longer be payable but redundancy may sometimes be a carve-out from this provision. If the contract is silent, and the bonus is a payment for previous achievements (e.g. sales performance over the past year), and not an incentive for the coming year or a reward for loyalty then it could be payable (at a rational level) despite the individual being on garden leave.
If a bonus is stated to be conditional upon someone’s “active employment” this will ordinarily mean that they are not entitled to it even if they are on garden leave.
What if someone is working out their notice period?
The terms governing the bonus arrangement typically state whether the individual will be paid their bonus if they are employed but working out their notice period. There may be a distinction between those whose employment is terminating for certain reasons compared with others. (This distinction may be labelled “good leaver” and “bad leaver” see below.) For example, if an individual’s role is made redundant or they are departing as a result of ill-health, the terms may provide that they still receive some or all of their bonus. Ordinarily employers will not want to pay out a bonus if an employee is leaving because of conduct issues or if they are joining a competitor.
What if someone is suspended?
A bonus scheme may specifically provide that an employee suspended with or without pay will not accrue a bonus and/or that an employee will not receive their bonus if suspended. In the latter scenario an employer would be imposing a (potentially very harsh) disciplinary sanction so should be cautious about the stage they have reached in the investigation and disciplinary process and the justification for the suspension. The written documentation would also need to be very well drafted.
What if they are paid in lieu of notice?
Whether an individual is entitled to receive a full or partial bonus as part of a payment in lieu of notice (PILON) will normally come down to the drafting of the PILON clause and/or the bonus terms. If a PILON states that the employee will be paid basic salary only in lieu of notice then the bonus would not ordinarily be included. The PILON clause also brings the termination date forward and can therefore prevent an employee continuing in employment past the bonus payment date.
If the individual does not have a PILON clause in their contract then it would be a technical breach of contract for an employer to make a PILON payment. ‘Damages’ for that breach are designed to put the individual in the position they would otherwise have been in if the contract had been performed (arguably, including the bonus payment).
Good leaver v Bad leaver
The phrases “good leaver” and “bad leaver” are habitually used to differentiate between the ways in which employment terminates. For example, a good leaver definition often includes situations where an individual is made redundant or is leaving as a result of serious ill-health; it can be extended to include a situation where the individual is leaving but will not join a competitor. A bad leaver definition frequently includes dismissal for conduct or capability/performance reasons or resignation (which may be narrowed to only cover joining a competitor business) or an assertion of constructive dismissal.
If good leaver/bad leaver status is linked to a bonus payment it would normally be the case that a good leaver receives some or all of their bonus and a bad leaver receives none. More sophisticated schemes will provide for a “good leaver” to become a “bad leaver” if they subsequently breach their post termination restrictive covenants.
Is a bonus ever repayable?
It is possible to include claw-back provisions in a bonus scheme which require an individual to repay their bonus (gross or net) in certain eventualities. For example, if the bonus is seen as an incentive for future performance and/or a loyalty payment then the company may wish to provide that the bonus is repayable if the employee leaves within six months of the payment. It may also be sensible for bonus schemes to specify that bonus payments made in error are repayable although this could be covered off in other contractual terms.
A bonus scheme may provide that if serious misconduct or a breach of post-termination restrictions is discovered after a bonus has been declared or paid then it is repayable by the individual.
Regulatory framework, Corporate Governance & Remuneration Codes
At the time of writing there are a number of external factors that can impact on the payment of bonuses particularly in the financial services sector. These include: the Listing Rules; the UK Corporate Governance Code and the FCA Remuneration Code.
Amongst other things, the Corporate Governance Code sets out that businesses under its remit must avoid reward for poor performance and are advised to partly pay bonuses in shares and/or phase the entitlements over a period of years.
The Remuneration Code applies more stringent regulation to many organisations in the financial services sector and their ‘code staff’ (including, amongst others, senior managers and those classed as risk-takers). This currently includes, amongst a wider set of provisions, a percentage of variable remuneration that must be deferred pro rata over a period of years; a percentage of variable remuneration that must be paid in non-cash elements (such as shares or share options); and adjustment mechanisms to cover different eventualities (including repayment). Please see here for more details.
Where there is disagreement between parties about whether an individual is entitled to a bonus, the amount of a bonus, and/or when it might become due, both the company and the individual should take legal advice. We have expertise and many years’ experience in dealing with such matters from the perspective of employers and senior executives/individuals which includes litigation to resolve bonus disputes.
If you would like to speak to us concerning an actual or potential bonus dispute then please call on: 020 3178 5360 or email: firstname.lastname@example.org and your query will be directed to an employment solicitor in our team.
Discrimination & Equal Pay
There are a number of circumstances where discrimination laws and bonuses cross. Employers should bear in mind that discrimination may lead to claims of significant value. For example:
- Whether a woman is entitled to a full or partial bonus if she is on maternity leave or has been on maternity leave for part of the year.
- Where, indirectly, certain individuals of different sex, race, age, disability or other protected characteristic are treated less favourably than their colleagues. An example may be where a disabled employee is on sick leave at the time the bonus is paid but has played a central part in the success of his division, throughout the year.
- Whether there is equal pay between men and women when the remuneration package (including any bonuses) is broken down into its constituent parts.
This publication is intended for general summary guidance. It is not and should not be considered legal advice. Specific advice should be sought for specific cases; we cannot be held responsible for any action (or decision not to take action) made in reliance upon the content of this publication.