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Bonus payments- when is a discretionary bonus really discretionary?

12th March 2009

Recently there has been a lot of debate about bonuses, in particular the huge bonuses made in the banking sector, and the “bonus culture” that is found throughout the financial sector. However, there are thousands of workers in the UK for whom bonus payments make a vital and important part of their standard income, including sales people in a variety of businesses. For most of these people their bonus payments are very modest in size (unlike some paid to staff in the big banks), and form an essential part of their income. However in times of recession employers often seek ways of reducing their employment costs, and the ways in which they pay their staff. The withholding or reduction of “discretionary” payments is often seen by employers as an easy means of reducing their costs. Employers need to be careful when exercising their discretion over the payment of such bonuses, as has been highlighted by a recent decision in the Employment Appeals Tribunal. Few employers consider exactly what is meant by the term “discretionary”, and whether the discretion applies to the obligation to make a payment or just the amount of the payment (see our Free Factsheet Bonus Payments). 

In the case of Small v The Boots Co Plc and Boots UK Ltd the Employment Appeals Tribunal pointed out that “discretionary” in the context of a “discretionary bonus” can have a variety of meanings. It could mean:-

a)      The provision of an overarching bonus scheme itself was discretionary, or

b)      A decision to operate the bonus scheme each year is discretionary, or

c)      The method of calculating the bonus is discretionary, or

d)     The threshold or performance target which triggers a bonus payment is the subject of discretion.

These are distinctions that have a significant impact on the respective rights and entitlements of the employer and employee over the bonus scheme.

The relevant case law also indicates that where an employer has an absolute discretion, it must not exercise, or fail to exercise, that discretion irrationally, and it must act in good faith.

Mr Small and other warehousemen employed by Boots brought a claim against their employer for the recovery of unlawfully deducted wages when they were not paid the performance related bonuses to which they believed they were entitled ( remember that the non-payment of a payment due to an employee is treated in law as an unlawful deduction). The Boots Staff Handbook stated that, “After a qualifying period of service, there are discretionary benefits such as bonuses... However, they are not intended to be contractual.”

The Employment Tribunal that heard the case found that the employees were not entitled to a bonus payment, deciding that the payment was purely discretionary. The Employment  Appeals Tribunal said it was not that simple, as they had not considered the various meanings of the word “discretionary” in the circumstances. It also noted that the original Employment Tribunal had failed to consider the impact of the regular practice of making bonus payments each year in deciding whether or not there was an implied contractual term that a bonus would be paid- even if the amount may be discretionary.

This case highlights the importance of setting out the terms of any bonus scheme very carefully, and at the very least making it clear where the employer can exercise its discretion- be that over the status of the scheme, the calculation of any bonus payment, and/or the terms of entitlement to any bonus payment. The simple fact that a bonus scheme has been described as “discretionary” will not in itself give the employer the opportunity to withhold or refuse to make a bonus payment to its staff. 

If you require further information or advice on any of the matters raised in this article, please do not hesitate to contact us.

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