How to Design Effective Employee Incentives

Incentives or bonuses are either guaranteed under contract, discretionary or some combination of the two. The details of any incentive schemes should be specified in the terms of the employment contract.

When policies and schemes are incorporated into your employees’ contract of employment, they become terms or conditions of the employees’ employment with your organisation that they can rely on and therefore will give them certain expectations of what will happen.

To subsequently fail to comply with a term in a contract may be found to be unlawful and the law provides for recourse against the guilty party.

Some contracts have a clause saying that a contractual bonus will not be paid if employment is terminated ‘for cause’, such as alleged gross misconduct or if an employee is not in employment on the payment date.

In most incentive schemes, employers allow themselves the discretion to decide who would be eligible for a bonus, the amount payable and whether to pay any bonuses at all in a particular year.

It is an implied term of any incentive scheme an employer’s discretion is not exercised in a way which is not irrational or perverse.

If as an employer you have a contractual bonus scheme (i.e. one guaranteed under contract) then any changes made to the scheme would need to be made through a formal procedure involving employee consultation and agreement.

If you have a discretionary bonus scheme, it is more likely you can change the scheme without consulting employees because you have made the employees aware that the way the scheme is run is fully at your discretion.

To label a scheme discretionary, and then ensure that it is discretionary in practice, informs your employees that the provisions may not be provided in the same way, or at all, throughout their employment.

If there was cause for amending the scheme, you would simply exercise this discretion and then inform employees of the change. However, changes to contractual schemes require agreement between employer and employee.

To introduce a change to a contractual scheme, it is essential that you convey to employees your intentions in advance of taking any action.

Undertake consultation with your employees, which includes informing them all of the intended changes and making sure they can discuss any particular concerns with you.