ABCs of Employment Law: Discretionary vs. Non-Discretionary  Bonuses

Bonuses are considered a form of additional compensation that employers may  offer to their employees as an incentive for good performance, loyalty, or other  reasons. Bonuses can be classified as discretionary bonuses or non-discretionary  bonuses. Knowing the difference between the two is important because there are  legal implications that come into play regarding whether bonuses have to be included when calculating an employee’s overtime rate. This is because the law requires that overtime be paid at a rate of one and one-half times an employee’s “regular rate.” Non-discretionary compensation, including non-discretionary bonuses, have to be factored-in to determine an employee’s “regular rate” and resulting overtime rate. Failure to do so violates the law and leads to liability. Read on to learn the difference between discretionary and non-discretionary bonuses.

Discretionary Bonuses

Discretionary bonuses are bonuses that an employer has the sole discretion to  award or withhold. They are typically not guaranteed, and the employer can decide  when, how much, or even if a bonus will be paid. The key characteristics of  discretionary bonuses are:

Uncertain: Employees do not have a legal right to them. The employer can  choose whether or not to provide them, based on an assessment of various  factors such as individual performance, company profitability, or other  subjective criteria.

Not necessarily announced or known to employees: They are typically not part of an employment contract or  agreement, often offered at the employer’s discretion.

Not tied to specific metrics: Employers may award them without specifying  performance goals or criteria that employees must meet to qualify for the  bonus.

Since discretionary bonuses are not legally mandated or contractually guaranteed,  employers have a high degree of flexibility in determining when and how to grant  them. However, employers should be careful to avoid any implied promises or  practices that could create a binding expectation among employees.

Examples of bonuses that typically qualify as discretionary bonuses are holiday or Christmas bonuses, one-off “thank you” bonuses, and referral bonuses paid to employees who are not responsible for attracting or acquiring employees as part of their job duties.

Non-Discretionary Bonuses

Non-discretionary bonuses, also called contractual or performance-based bonuses,  are bonuses that are promised or agreed upon in advance, often as a part of an  employment contract or compensation plan. These are typically awarded based on  specific criteria or metrics. The key components of non-discretionary bonuses are:

Announced/Known to Employees: They are typically outlined in an employment contract, offer  letter, or a company’s compensation policy. They create a legal obligation for  the employer to pay the bonus if the specified conditions are met.

Performance-based: They are usually tied to objective criteria, such as  meeting sales targets, achieving specific performance goals, or completing a  project within a certain timeframe.

Guaranteed under certain conditions: When employees meet the  predetermined criteria, they have a legal right to receive the bonus, and the  employer is obligated to provide it according to the agreed terms.

Generally, a non-discretionary bonus is a bonus an employee expects to receive when a certain metric is met. For example, if a company offers attendance bonuses when certain criteria are met, the expectation is that once met, the bonus will be paid, such that the company does not exercise discretion in determining whether to pay it. The expectation is that it will.

Bonus Pay Disputes 

The key difference between discretionary and non-discretionary bonuses is the  obligation associated with the payment. Employers and employees need to clearly  understand the conditions of bonuses in their employment relationship to avoid  misunderstandings and potential legal disputes. Opportunities to litigate cases for  discretionary bonuses are limited since they are not guaranteed. However, legal action can be pursued for failing to include non-discretionary bonuses in employees’ regular rates when overtime is worked.

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