Employment law - Bonuses

Discretionary Bonuses

Often, there is uncertainty about whether a bonus which is expressed to be "discretionary" in an employee's contract truly gives the employer an unfettered discretion, or whether that discretion must be qualified. This is particularly relevant where an employee is under notice or has just left employment. The employee may have already performed well for the bonus year, but has no future with that employer. Can the employer then exercise its discretion to avoid payment of bonuses for past performance?

Although the terms of a bonus will usually have been discussed in detail with the employee (and may even have been built in to an offer letter), when disagreements over bonus payments arise contractual documentation is often sadly lacking. The clearest position for all parties is where the bonus is expressed to be "contractual" and based on a specific formula. For example, it may be linked to individual performances and targets achieved, or the employer's performance as a whole. There is little room for manoeuvre by an employer in these circumstances, even if the employee is under notice, but has worked the full year.

Most schemes however, are expressed to be discretionary. Such schemes usually still include some kind of bonus criteria (such as the achievement of individual or departmental targets) for determining the amount of the bonus, but will always reserve to the employer the right to decide whether those payments are actually made.

It is now accepted that there is no such thing as an unfettered discretion. Various decisions by the courts in recent years have determined that an employer must exercise its discretion in good faith and on reasonable grounds. It follows therefore that if an employee meets his bonus criteria an employer must have reasonable grounds for not paying the bonus if it is to show that it has exercised its discretion in good faith. An employer may find it difficult to establish such a reason if it is not specified in the bonus arrangements.

Custom and Practice

An employer may similarly find it difficult if it has by custom and practice paid bonuses to other employees who have similarly performed over the year, but has decided to use the non-payment of a bonus as a tool to "freeze-out" a certain employee. What better way of signalling to the employee that he is no longer welcome by paying him far less bonus than his colleagues received? As it happens, an effected employee would potentially have the right to claim constructive dismissal in these circumstances, and such claim would include non-payment of the bonus.

Bonus payment on termination of employment

Often, the question arises whether payment of a discretionary bonus should still be made on termination of employment - whether the employee has resigned, or has been dismissed. If the employee has been dismissed for gross misconduct, there will almost certainly be no requirement to pay outstanding bonuses. In cases of gross misconduct, the employee will be in breach and will be dismissed summarily. Accordingly, any bonuses, which have been earned, but not paid, will be forfeited. It is worth noting, however, that if the dismissal is unfair (on procedural grounds) the employee could potentially claim his loss of earnings arising from the unfair dismissal. This would include entitlements to bonus.

However, if the employee resigns with notice in accordance with his contract of employment or he is made redundant, the position will not be so clear. In such circumstances, the employer will have three options: to allow the employee to work his notice period; to place the employee on garden leave or; to elect to pay the employee in lieu of his contractual entitlement to notice (assuming this right is reserved in the contract).

If the employer elects to pay the employee in lieu of notice, the employee will not be employed at the bonus payment date and will therefore not be entitled to receive a bonus. If there is no contractual right to pay in lieu however, the payment in lieu would amount to a breach of contract. In such circumstances, the employee could issue proceedings and would be entitled to recover the sums he would have been paid during his notice period - including the bonus.

Where the employee is working his notice or is on garden leave at the bonus payment date and the employer has sought to withhold the bonus, recent case law has come down on the side of the employee and the employer has been compelled to honour the bonus payment.

Change of culture

There is little doubt that there is a change in culture of how employers should now be considering the payment of discretionary bonuses. Employers are no longer able to decide such matters behind closed doors, without any rationale to the decision being made or, perhaps worse, make their decision based on a personal dislike of an employee.

In May 2012, Commerzbank in a landmark case case lost a claim brought by a large group of bankers who were promised a bonus pool of 400m EUR in 2008. Such promise was made by Dresdner Kleinwort to help retain their staff before it was sold to Commerzbank a few months later. In the end, only a tenth of that bonus was paid.

Although the case turned on the particular contractual obligations of Commerzbank to their staff, the court ruling could mean that more bankers will have the right to sue for similar promised bonuses- whether informally made or otherwise.

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