Bonus payments often form part of a senior employee’s or director employee's remuneration package. It is important to make clear whether such payments are:
- guaranteed and payable in any event
- only payable in certain circumstances
- payable purely at the discretion of the employer
The difference between the three types of bonus is significant, especially in the event of a termination of employment. If a bonus is contractual then it must usually be included as part of the employee’s compensation calculation in the event of wrongful dismissal. If, however, it is truly discretionary then the bonus is normally disregarded for those purposes because the employer may have chosen not to pay it. Misunderstandings and disputes arise where the contract does not make it clear whether the payment is contractual or discretionary and, if it is contractual, in what circumstances it is payable.
Recent cases have touched on this issue - to what extent can an employee sue over a discretionary bonus entitlement?
In Clark v Nomura (6 September 2000) a trader for Nomura was entitled to a discretionary bonus that was not guaranteed and that was said to be "dependent upon individual performance". In reaching its decision, the court firstly drew a distinction between those bonuses that:
- are meant to be a reward for past performance and
- are designed to retain employees in the company for the future
On the facts the Nomura scheme clearly fell within the former category and although it was described as discretionary this did not mean that it had an unfettered power on how much to pay. The court decided there was an implied term that an employer should not be allowed to exercise its discretion irrationally or perversely in a situation where no reasonable employer would have declined to award a bonus.
Clark
illustrates that even if an employer describes a payment as discretionary, there will be limits or fetters on the employer’s ability to behave as it chooses in the exercise of that discretion. Nomura tried to exercise its discretion by reference to 'individual performance' but in fact it took into account a number of other factors that it should have disregarded.Tips
Bonus schemes should be tailored specifically to the requirements of the employer’s business and the role of the employee within it.
An employer should consider the following issues:
- are bonus entitlements to be guaranteed or discretionary?
- will the bonus payment be payable only in defined circumstances?
- how is it going to be calculated in relation to the period it is payable for?
- are bonuses going to be payable to employees who have left employment before the payment date or have given/been given notice?
- is service throughout the whole of the preceding financial year essential or is payment pro rata?
- is a bonus payable where the employee is dismissed for gross misconduct?
If the employer wishes the scheme to operate on a discretionary basis it is important to emphasise its non-contractual nature. It may be best for an appropriately worded description of the scheme to be given to relevant employees separately from their employment contract and for no mention of the scheme to be made in the contract.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
