Business Law

Legal Guide to Bonus Pay for Employees

An employer can tie bonuses to performance to encourage employees to improve their productivity, which in turn helps the company reach its goals. When used this way, it becomes a win-win situation.

Bonus pay, also known as bonus or bonus payment, can be termed as compensation paid to an employee on top of their base hourly rate of pay or salary. It recognizes and rewards extra contributions by an employee, improves morale, and boosts productivity.

An employer can tie bonuses to performance to encourage employees to improve their productivity, which in turn helps the company reach its goals. When used this way, it becomes a win-win situation.

The employer should not give bonus payment as a credit towards overtime, so it is crucial to carefully develop bonus programs to avoid being on the wrong side of the law.

The Fair Labor Standards Act (FLSA) stipulates that bonus payments must be included in the worker’s hourly rate when calculating the overtime premium. The good thing is that an update to the FLSA act in January 2020 gave employers some freedom on bonuses they can exclude when determining overtime rates.

Reasons Bonuses Are Offered to Employees

Let’s discuss the reasons a company might offer bonuses to an employee. 

Contracted Bonus Payments

These are bonuses stipulated in the employee’s contracts, especially those occupying senior positions. The bonuses often relate to specific performance benchmarks or dependent on the company meeting set revenue targets.

These bonuses are not standard with lower-ranking employees.

To Bring Employee’s Salary to Market Rate

If an employee undertakes more training in their field to better their skills, an employer may choose to give a special pay (bonus) to bring their salary up to the level the market data indicates.

For this to happen, the employee must include market data such as newspaper ads, salary surveys, and other relevant indicators that prove their request for special pay are valid.

In addition, an employer may offer special pay to retain an employee who has been offered higher pay elsewhere.

In other words, companies may offer bonuses to compensate an employee for extensive training they have gone through or to retain an employee in the company.

To Resolve a Pay Disparity

An employee may also receive a bonus to resolve a disparity in pay between newly-hired employees and current employees.

When newly-hired employees receive wages at the same level or a higher rate than current ones, the employer may give current employees a bonus pay to place their compensation higher or at par with new employees.

To Compensate for Added Duties

Bonuses can also serve to compensate an employee for added duties or responsibilities outside their work description.

Superior Performance

Employees are rated based on their performance in many organizations- whether or not they met or exceeded the set goals.

An employer can give bonus payment to an employee who has had a standout performance at work. This encourages him/her to continue performing and sends a message to others that their extra performance never goes unnoticed.

In addition, a company can give bonus pay to an employee who has had a significant influence on employees, such as in leadership, problem-solving, and effective communication.

The Two Categories of Bonus Pay

Bonus pay may be discretionary or nondiscretionary. Let’s discuss the two bonus categories in greater depth.

Discretionary Bonuses

This is the discount an employee gives to an employee at their discretion, perhaps to reward them for exemplary performance, for being the employee of the month, or for the successful referral of a valuable new employee. It is not a must for an employer to pay these bonuses, and thus there is no set amount.

To be considered a discretionary bonus, these four criteria must apply;

  • The employer has the final say regarding whether or not to pay the bonus
  • The employer decides the amount of bonus 
  • The employer retains discretion on when they will pay the bonus 
  • The bonus is not tied to any contract, promise, or agreement

Nondiscretionary Bonuses

These are bonuses an employee expects and thus are well-known by both the employer and the employee. They typically come from predetermined factors such as attendance.

Nondiscretionary bonuses are included in the base salary or hourly pay rate and are specified in the employee contract, offer letter, or employee personnel file.

In other words, the employees know what they are required to do to receive the bonus.

Key Takeaways

  • Bonus pay is compensation given to an employee, in addition to their regular earning
  • Bosses give bonus payments for various reasons, including as a reward for good performance, meeting individual or company goals, or as a requirement by law
  • Bonus pay falls into two categories: discretionary or non-discretionary
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