In hard financial times, cost cutting considerations are carried out across the board with no part of the business safe from belt-tightening. With employee bonus schemes adding up to a significant profit pay out, scrapping these can seem like an easy first step to getting the business back on track, but is it as easy as it sounds?

A number of organisations across a wide range of sectors are reportedly facing difficult decisions about their finances. Those with different corporate structures have not escaped these circumstances either, with employee-owned John Lewis & Partners making the headlines over their recent bonus announcements. In January 2019, the company announced that the payment of the annual staff bonus, based on profit, would need to be considered carefully in light of the current economic climate. A drop in profits led to reports that the bonus would be scrapped entirely; however, in March it was announced that employees were set to receive a bonus payment amounting to 3% of their annual salaries. The significantly reduced bonus follows bonus payments which have reduced every year for the previous six years, and compares to a 15% bonus paid out in 2014.

The terms of John Lewis’ profit-sharing scheme evidently provide the flexibility to reduce bonus payments where profits are low or there is projected difficulty ahead. Scrapping a bonus scheme may seem like an ideal solution where finances are tight; however, doing so may lead to unintended consequences. We take a look at the options available to employers dependent on the type of bonus scheme operating.

Internal bonus schemes

There are a variety of different bonus schemes which can be in place in organisations, from profit shares to retention bonuses, or even the traditional Christmas bonus scheme.

The important feature that employers need to be aware of when considering removing bonuses is whether they operate a contractual or discretionary bonus scheme. Not only will this depend on the very wording of the scheme, ie most discretionary bonus schemes will explicitly state that they are non-contractual and the organisation reserves the right to vary, amend or remove the scheme at any time with or without notice, it will also be determined based on how these have been operated in practice.

A discretionary bonus scheme may be arguable as an implied contractual term where an employee can show that bonus payments have been made regularly over an extended period of time and there is an expectation that such a bonus will continue be paid. Whether there is an implied contractual bonus scheme will depend on each set of circumstances, with an employment tribunal likely to review all forms of communication regarding bonus payments and the discretion the employer has over their operation. Reminding staff throughout the bonus period, and at the time payment is made, that this is part of the discretionary scheme and there is no entitlement to a bonus at any future date will be compelling evidence that there is no regular expectation of the bonus and this remains discretionary.

The discretionary bonus scheme

As highlighted by the name given to these very schemes, a discretionary bonus provides employers with the right to amend or remove bonuses as they think fit. No employee entitlement is created by these bonus arrangements and the wording of the scheme will make it clear that there should be no expectation of a bonus payment at any time.

It will, however, be good people management to make employees aware when they won’t be receiving a bonus payment. This helps reduce the risk of employees feeling disgruntled and under-valued when they don’t receive an extra pay award, especially if an explanation which details the organisation’s difficult financial times and a reminder of the discretionary nature of the scheme is given at this stage.

The contractual bonus scheme

Contractual bonuses are usually the most clear-cut for both parties; employees know what to expect and when, while employers can clearly outline terms which must be met before a bonus is payable. The issue with contractual bonuses, however, is that amending or removing a contractual bonus is a difficult process. Simply failing to pay staff their contractual bonus, even if you don’t have the available profits to do so, will breach the contract of employment leaving an organisation open to breach of contract claims or even staff resigning and claiming they have been constructively unfairly dismissed.

Contractual terms can be amended where there is mutual agreement. Although it is unlikely an informal process will be successful, sitting down and explaining to staff why their contractual bonus may need amending or removing could see them agreeing to this. After all, if the explanation includes a risk of finances becoming so bad that redundancies or closure may be contemplated, employees may agree to a short-term loss for the long-term benefit. A formal consultation process will need to be followed where staff fail to informally agree, with terms and conditions seeking to be changed on a formal basis. This consultation may require minimum consultation periods, and discussing with appropriate employee representatives, depending on how many employees would be impacted by the bonus change or removal. Again, offering employees a full explanation and considering the use of incentives that do not have a significant financial impact on the business in the short-term, ie granting extra holiday to be taken over a 12-month period, could see agreement being obtained.

Where agreement is not reached under the informal or formal process, employers have the option of enforcing the change by dismissing employees for “some other substantial reason” and offering re-engagement on terms and conditions which reflect the contractual bonus removal. This option is subject to challenge, however, and employers will have to show they followed a fair process and a dismissal for this reason was fair and reasonable in all the circumstances. Being able to demonstrate the material and objective business reason behind the removal of the contractual bonus terms will be key to evidencing the reasonableness of this decision.

Due to the difficulty of amending or removing contractual bonus schemes, employers are reminded that they can reduce the likelihood of issues arising by implementing a well thought-out scheme that is conditional on the performance of the bonus and other terms being met. It is very rare that contractual bonus schemes are unconditional because this means that they are payable regardless of the position of the business or the employee’s contribution throughout the bonus period. Usual conditions which are placed on bonuses include minimum profit levels, either where a bonus scheme is not payable unless a particular profit is hit or where the bonus increases once a minimum profit level is achieved and exceeded, or where the employee has to hit certain targets or objectives before becoming eligible for a bonus. This helps prevent employers from facing difficult bonus decisions should they be placed in a financially insecure position.

Last reviewed 8 May 2019