Entitlement of Bonus on Termination of Employment – Basic Legal Principles [video]

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Disputes regarding the payment of bonus on termination of employment are common. While the entitlement to bonus can become a complex factual and legal issues, this lecture explains the basic legal principles regarding the bonus entitlements on termination.

This lecture is taught by Amer Mushtaq, LL.B., M. Engineering , B.Sc. (Hons.), who is the Principal and Founder of Formative LLP.   Through his YouTube channel, YouCounsel, Amer shares practical advice from his years of legal experience to help anyone access justice and achieve their goals.  Subscribe today to learn more.

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Welcome everyone this is Amer Mushtaq from You Counsel. Today, we’ll talk about payment of bonus on termination. This topic can become very contentious when an employee is terminated, and he or she believes that he or she is entitled to a significant amount of bonus that the employer is withholding, and the dispute can be quite intense and complex. We’ll cover the basic legal principles so you can get an overview of what are the legal concepts that relate to the payment of bonus on termination of employment.

We begin with a disclaimer that this course is not legal advice, so, if you have any specific questions about your case you must contact a lawyer or a paralegal.

What are the common reasons for the denial of bonus? I’ll give you a few here. Number one could be that that the payment of bonus is discretionary and so regardless of whether you are an employee or you’re terminated, you are not entitled to bonus.

Second reason could be that that someone did not meet targets and by someone I mean it could be you the employee who did not meet the targets, and therefore you’re not entitled to bonus. It could be your department that did not meet targets, or it could be the company that did not meet targets, or any one or combination of those could be that reason given for the denial of bonus.

Another reason could be that the company does not provide any pro-rated bonus, so you were not employed for the entire fiscal year or entire calendar year and therefore the company would not give you pro-rated bonus because that’s not their policy.

Or another reason could be that you were not employed on the date when the bonus is paid out. So you may have completely worked for the entire fiscal year, but because you were not employed on the date that the bonuses are paid out, you are not entitled to receipt of the bonus. So we’re going to talk about all of these in a little bit.

Let’s start with basic bonus types: what kinds of bonuses are there? There are essentially two kinds of bonus, one is discretionary, and one is non-discretionary bonus.

What is a discretionary bonus? A discretionary bonus is really a bonus that is at the employer’s discretion. An employer can decide whether somebody, someone, or the entire company, may get bonus in one particular year or may not. So discretionary bonus is not really based on someone’s performance, your performance, department’s performance, or a company’s performance. The company may not do very well that year and yet the company may decide to give bonuses to different people. Or the company may have performed amazingly and may decide not to give out anyone a bonus. So that’s essentially what a discretionary bonus is.

What you want to keep in mind is that when this issue is faced in courts, the courts believe that discretion, even if it is a company’s discretion, the discretion cannot be exercised arbitrarily. So there has to be a good reason for the exercise of the discretion. So giving an example, if you were an employee who was still employed, who was not terminated and you would have gotten the bonus because everybody else was getting the bonus, or you would have gotten the bonus because of your contribution. And the only reason you are not getting the bonus is because you have been terminated from your employment, then that may be a situation where the court may say, “well, it is your discretion, but you’re trying to exercise your discretion arbitrarily, and we’re going to supersede that, we’re going to deny that, because you can’t do that, that’s fundamentally unfair.”

So, that’s sort of the legal principle that you want to keep in mind in discretionary bonuses, and it happens all the time that you have been getting bonuses for the last four or five years, everyone else has been getting bonuses, and just because you were terminated the employer chose not to give you the bonus. So that’s one reason that you want to think about even when your contract says that your bonus is discretionary.

Now non-discretionary bonuses. Non-discussion bonuses are essentially metrics-based, there has to be some formula underneath it. It could be based on employee’s performance, it could be based on your department’s performance, it could be based on company’s performance, or any combination of that. And these non-discretionary bonus formulae could be very complex. I mean it could be as simple as if you achieve $1 million sales, your bonus will be 10% of your salary, it could be as simple as that. Or it could be very complex in terms of your achievements, your department’s achievements, your company’s achievements, and all of that you know thrown into a metric. And so these metrics-based situation varies usually based on the industry. If you’re working in the financial industry they have one way of dealing with this, if you’re working in the legal industry or an accounting firm then they have different, you know, metrics.

I can give an example, especially in legal firms and in accounting firms, because they charge based on the number of hours a lawyer or an accountant worked for a particular year, so the performance bonus, the non-discretionary bonus is based upon the billable hours that a lawyer or an accountant charges for one particular year. So, an example in the law firms is, if a lawyer exceeds $200,000 in billable hours in one particular year then he or she may be entitled to some bonus on additional hours.

Okay, so what about pro-rated bonus? There are few things that you want to keep in mind. One is that whether you were terminated or you resigned. Because when you were terminated that date or the timing of determination is of the employer’s choice, the employer decides when your employment would end. And so it could it is possible for an employer that the end of the year is December 31st, and the employer chooses to terminate your employment on December 24th. And on that basis, the employer makes an argument that because you were not employed until December 31st for the full year, we do not pay a pro-rated bonus and so you’re not entitled to do it. So, if you’re terminated, the court may respond in your favor and say to the employer that you had the power to choose the date of termination and you arbitrarily picked a date which was prior to the completion of the year, and therefore those grounds are not valid. In terms of resignation the opposite may be true, because you are the employee are walking out of the job and leaving the employment, and you are choosing the date, then you may not get your pro-rated bonus because of your choice. So, timing of the termination or the resignation matters, the nature of termination or the resignation matters. But generally speaking what you want to keep in mind is that if you have contributed for a certain period of time for the benefit of an employer, then the general principle is that you should be entitled to that contribution even if it is not for the entire year, because you have already contributed and the company has already benefited from it. So, there is a basic rationale of fairness that you should be entitled to it, but it will depend also on what your contract says.

Now, let’s go to the payout date of bonus. This is something that we see increasingly in a number of employment agreements especially with respect to the financial industry, the accounting industry, the legal industry, and some of the other industries, where the employment contract says that even though our fiscal year completes on December 31st, we pay out bonuses on March 1st and if you, the employee, are not employed on March 1st of the next year you will not get your bonus payout, even though you may be entitled to it. So it’s a tough clause and if you’re an employee you got to be watchful if this clause is in your contract, because that could have a significant impact on your entitlement to bonus. So again, just like the pro-rated bonus both the termination or the resignation matters, and the timing of your termination also matters. Because if you are let go in February and the payout is really March 1st you know is that really fair when you’ve contributed to the success of the company, and you are entitled to the bonus otherwise.

Okay, so in all of these scenarios what you want to keep in mind is that your employment contract is really the most important document. What does your employment contract say about your entitlement to bonus? That’s something that you want to keep in mind. Does it say it’s a discretionary bonus, does it say it’s non-discretionary bonus, is there a formula? And then with respect to employment contract you want to be careful, because there could be legal contractual issues that could be very complex. So even if the employment contract says that the bonus is discretionary, that may not be upheld by the courts depending upon, you know, past or present practices of the employer. So let’s say if you are in the financial sector and you are entitled to a bonus and the assumption is that bonus is really your income, and only that the method of payment is different, then the practice of that industry is that it is as good as income, and just paid differently, then the court may find in your favor and say that the combination of the employment contract language of discretionary payment and the current and past practices of the employer combined may come up with a result that is that you are entitled to bonus and it’s more favorable. So you want to look at your employment contract very carefully. And then at the same time, if it’s a non-discretionary bonus and there’s a formula and metrics then you want to make sure that you understand what that formula is and then you can make your employer accountable for that formula.

So, what is the conclusion, what you want to take away from this is: do not assume whether you are entitled to bonus or not entitled to a bonus. I think that it lies in the language of the contract, it lies in the practices of the employer, and the overall fact that, generally speaking, the court believes that if you contributed to a certain extent to the company and you would have been entitled to a bonus otherwise but for your termination, then the chances are you will get some bonus.

So, second thing you want to keep in mind is when you’re negotiating contracts you want to be careful about the language surrounding the bonus, if it is an important thing for you, if you have negotiated and it’s a big deal for you that you get bonus, then you want to make sure that the language in the contract reflects that, not just the discussions that you had with the company, but the actual wording of the contract reflects that.

You also want to keep in mind that bonus is a very important, very relevant consideration for your severance calculation; it plays a significant role in the calculation of your severance. Because severance is not just based upon your salary, but it’s based upon your total income so you want to keep that in mind. And so hopefully this basic lecture gives you an idea of how the courts think about entitlement to bonus and you can apply this into your circumstances, and then what we’ll do is, we’ll continue to build upon it, we’ll have some specific scenarios where we will take a clause, a bonus clause, from an employment contract and then talk about in more detail how it applies to different circumstances.

If you have any questions or comments please share with us, and thank you for watching, we look forward to seeing you in the next lecture.

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