What and Why Bonus Plans?

Incentive pay has become a significant element of remuneration for many employees. Incentive compensation can take many forms including commissions, bonuses, profit sharing, stock options, stock ownership, etc.

The purpose of these plans is obvious, namely, to provide the employee with an incentive to achieve certain defined goals. Furthermore, given the fact that such plans are now so customary, the ability to attract high calibre personnel may very well depend on the potential incremental income the bonus plan represents.

Features of Bonus Plans

Entitlement to incentive compensation can be tied to individual performance, performance of the employer (group, division or company, or family of companies) or a combination of these. Furthermore, entitlement can be based on specific measureable criteria, more subjective criteria, or simply subject to management discretion. Entitlement under the plan may also be subject to a vesting period, with it being common to have payment dependent on the employee being actively employed on the date payment is due.

Provisions Attempting to Limit Bonus Following Termination

If the employer considers bonuses as an incentive for future service (i.e. retention), as opposed to a reward for past service, the bonus plan will be drafted so as to exclude entitlement to payment unless the employee is actively employed on the date of payment. To be enforceable, such clauses must be carefully drafted, otherwise the employee may be entitled to damages equal to all forms of remuneration during the reasonable notice period, including bonuses which otherwise would have been awarded.

The Discretionary Bonus

Very often a bonus will be designated “discretionary”. The employer will thus argue that because the bonus was discretionary during employment, it should not be compelled to pay same during a notice period following dismissal. Cases have held, however, that where the bonus forms a significant part of the employee’s compensation and has been typically paid over a number of years, it may form part of the employee’s entitlement during the notice period notwithstanding its “discretionary” label. The thinking appears to be that the more often it is paid the less discretionary it becomes.