Bonus pay is compensation in addition to the amount of pay specified as a base salary or hourly rate of pay.
Learn more about when employers hand out bonus pay and what rules come into play.
What Is Bonus Pay?
Bonus pay is additional pay given to an employee on top of their regular earnings; it's used by many organizations as a thank-you to employees or a team that achieves significant goals. Bonus pay is also offered to improve employee morale, motivation, and productivity. When a company ties bonuses to performance, it can encourage employees to reach their goals, which in turn helps the company reach its goals.
- Alternate name: Bonus, bonus payment
How Does Bonus Pay Work?
Bonuses may be discretionary or nondiscretionary; in other words, they may be paid out as and when the company sees fit, or they may be specified in an employment contract or other documentation.
Discretionary bonuses: An employer may distribute bonus pay at their discretion, perhaps as a reward for high performance, for an employee-of-the-month program, or for a successful referral of a new employee. Discretionary bonuses are not required to be paid out, and the amount of the bonus is up to to the employer.
For example, many companies do year-end or holiday bonuses. If they are not part of a contract or otherwise promised, they are discretionary bonuses.
Nondiscretionary bonuses: Nondiscretionary bonuses are known and expected by the employee. They may be based on a predetermined formula, or on factors such as attendance. They are generally included in the regular rate of pay, which is specified in the employee offer letter, in the employee personnel file, or a contract.
Say, for example, an employer provides an incentive pay plan for employees who achieve certain performance benchmarks. Since the employee knows what is required of them in order to receive the bonus, it would be a nondiscretionary bonus.
The Fair Labor Standards Act (FLSA) states that all employee compensation is included in the base rate of pay, which is used to determine overtime pay, but that some bonuses may be excludable if certain criteria are met:
- The employer can decide whether to pay the bonus.
- The employer can decide the amount of the bonus.
- The bonus is not paid according to any agreement or otherwise expected to be paid.
The FLSA also explains that some employees are exempt from its overtime rules if they are:
- Paid a fixed salary, which doesn't change based on their time or efforts
- Paid at least a minimum weekly amount of $684
- Primarily perform "executive, administrative, or professional duties"
Exempt employees may be paid up to 10% of their salary in nondiscretionary bonuses and incentives in order to fulfill the FLSA salary requirements.
Types of Bonus Payments
There are several different instances in which a company may issue bonus payments.
Contracted Bonus Payments
Executives, especially those in senior roles, may have contracts that require the company to pay out bonuses. These bonuses are often dependent on the company meeting specific revenue targets. The employer may also base them on different criteria such as sales, employee retention, or meeting growth goals.
Executive bonus payments are not always tied to performance results. Contracted bonus pay is not common outside of the executive suite.
Performance Bonus Payments
Some companies offer bonuses to people below the executive level as well. These bonuses can be based on many different factors.
- Personal performance: Employees are rated based on how they met or exceeded the goals set by their management. This type of bonus can also reward soft skills that had an impact on the organization's performance, such as leadership, effective communication, problem-solving, and collaboration.
- Company goals: An employee would receive a bonus based on how well the company performed as a whole. If an employee had an outstanding year but the company didn't do well overall, the employee wouldn't receive the bonus. But if the company exceeds its goals, it's possible the bonus may be higher.
- Pay grade: Typically, if you're paid more money, you're eligible for a higher bonus. As an example, a company might pay one employee $50,000 a year and make them eligible for a 5% bonus if goals are met, but pay another employee $100,000 a year with a possible 10% bonus. Bonuses based on pay grade recognize that a senior employee may have a more significant impact on the company's performance.
If you're a sales employee (inside or outside), commissions are generally a good portion of your pay. These are often referred to as bonuses as well, but they differ from other bonuses in that they are directly tied to your sales numbers and generally not to anything else. Some companies cap the total sales bonus an individual employee can receive.
One structure of bonus payments frequently found in sales organizations is to reward sales performance at specified levels above commission. Some sales organizations reward employees with bonus pay without commission.
Other organizations set team sales goals instead of individual sales goals. As a team member, you'd earn the same as the other team members make, a portion of the pooled commissions, and bonus, if available.
- A bonus payment is additional pay on top of an employee's regular earnings.
- A bonus payment can be discretionary or nondiscretionary, depending on whether it meets certain criteria.
- Bosses hand out bonus payments for a variety of reasons, including as a reward for meeting individual or company goals.