TIPS ON DRAFTING BONUS CLAUSES IN EMPLOYMENT CONTRACTS
Understanding bonus clauses, and how to create clauses which offer the correct bonuses that you intend to give, can be difficult. When writing up an employment contract, correctly defining information in clauses could be vital for the avoidance of unnecessary payments to your employees. Making sure that any bonus clauses contained within employment contracts are airtight might need the input of an employment lawyer. But why is this?
Your bonus terms must expressly specify any restrictions you wish to impose in terms of eligibility for payment of a bonus.
If you do not wish bonuses to be payable where an employee has left, resigned or is working their notice period then this must be clearly and expressly stated.
Drafting contracts that fairly reflect the interests of both parties can be beneficial to you and your business should your employee decide to leave.
David Greenhalgh is an expert employment lawyer based in the heart of London. He has over 20 years of experience working in employment law. David will offer you expert advice on how to create clauses in an employment contract that adequately suit both parties. This will benefit you should your employee try and seek bonuses to which you have not explicitly agreed.
Offering bonuses is an effective way to keep employees motivated and engaged in their work. There are various types of bonus structures available. Businesses should select a plan that suits the business’s size and net worth. These bonuses usually work in structures which offer rates of pay above the annual salary of the employee based on their performance with Key Performance Indicators (KPIs).
These KPIs will be used to trigger bonuses in the employee’s contract. They can earn more money for performing well, and sometimes even more money if they have exceeded multiple targets during the pay period in question.
Bonuses serve 2 purposes:
The addition of bonuses, and therefore bonus clauses, are beneficial for the business and the employee alike. They offer an additional income to those who meet or exceed targets.
Ensuring that these clauses are unambiguous when committed to a contract benefits both employee and employer. Having achievable targets benefits employees and the employer, only if the targets are fully understood by both parties.
When agreeing to a contract that contains bonus clauses, it is in your interest to state the bonus terms clearly and communicate the bonus terms in writing. Make sure you are clear on whether the bonus scheme is contractual, discretionary or a mixture of the two.
If an employer sets clear performance targets within a bonus clause and the employee meets these targets, they must pay out a contractual bonus.
If your business offers contractual bonus clauses, then how the bonus clauses are written in the contract must be watertight.
An example of a good contractual bonus clause might look like this.
‘You are entitled to a performance bonus of 33% of your base salary, subject to your continued employment through October 2023. The bonus will be payable according to the terms outlined below…’
This clause is good because it sets defined parameters, such as specific dates and percentage of salary. The clause also recognised the employee’s entitlement to receive this bonus based on subsequent terms of employment.
Certain laws or regulations may mandate that some employers withhold or recover bonuses in specific circumstances. However, it is important for employers to first have a contractual basis for doing so. Typically, this right is outlined in the employee’s contract and explicitly states that the employer is allowed to do this.
In cases where there is no contractual basis for withholding or recovering a bonus, it could result in a breach of contract claim.
When the bonus terms are committed to the contract. If a contract mentions that a bonus will or can be paid to the employee but doesn’t commit to the terms by which the bonus will be paid, then that bonus is discretionary. It is therefore called a discretionary bonus.
Discretionary bonus clauses are those which are paid out by the employer, based on the discretion of the employer, not due to the employer meeting terms which are explicitly expressed in a contract.
This isn’t to say that the contract doesn’t mention bonuses or state that the employee is due to be paid a bonus, however.
It is at the discretion of the employer to offer a bonus to the employee based on their performance without the parameters being set by the employee’s KPIs.
An example of a discretionary bonus clause may look like the following.
‘The Company’s Board of Directors has the authority to grant the Executive a discretionary bonus each year. This bonus can amount to up to 33% of the Executive’s Base Salary, depending on their performance for the Company in the previous year.’
In this example, no date is set by the employer and no direct target or rate is explicitly set.
Consider inserting a clause stating it is agreed that any bonus due will only accrue annually at the end of the bonus year and not monthly.
The Courts have made it clear that they will not enforce any such terms where they are not expressly stated in the employment contract.
For immediate assistance from David please call 0203 603 2177 or fill out an online form to make a free online enquiry.
How you communicate bonus terms, for either contractual bonuses or discretionary bonuses, needs to be thoroughly considered by every member of senior management.
The employment contract should include a reference to any applicable bonus scheme. You can have a bonus scheme which sits separately from the employment contract. However, care needs to be taken around this can sometimes interfere with the employment contract and also the contractual status of the document.
If you are planning to separate your employment contracts and a document containing bonus clauses, then it is important that you consult legal advice on this new bonus scheme before it is signed by an employee.
You should advise your business against making any statement to staff potentially in line for a bonus about the possible value of any bonus pool for distribution in advance of formal bonus awards. This is because the Courts have indicated that such a statement can be used as evidence when the business later decides not to pay a bonus.
As with our examples above, the contract needs to have definite dates for when the bonus targets need to be met.
Using ambiguous language, such as ‘at the end of the year’ or ‘during the final quarter’ isn’t sufficient, and may lead to ambiguity in Court.
Describing a bonus scheme as discretion is not enough – that discretion also needs to be exercised fairly. If discretion is not exercised fairly, entitlement to a bonus has successfully been challenged on that basis.
“Superb, realistic, jargon-free, employment law advice. I’d have no hesitation to recommend David Greenhalgh to employees or employers, and indeed have done so with other colleagues benefiting from his specialist employment law experience. He is commercially-focused and gives practical advice to solve employment issues. He’s professional, responsive and works quickly.”
Sarah Williams
For more information on Drafting Bonus Clauses in Employment Contracts, why not view David’s guide on DRAFTING A GARDEN LEAVE CLAUSE? Or, follow this link for more information on Improving Senior Employment Contracts.
If you need advice or have any questions about drafting bonus clauses or defending demands for a bonus payment, please call David on 0203 603 2177 or Click To Make A Free Online Inquiry.
