Benefits and Compensation

Discretionary Versus Non-Discretionary Incentive Pay and Bonuses

As we all know, the FLSA requires us to pay overtime pay when it is due, and the base pay rate must include all payments for that time period in question—including incentive pay and bonuses paid during that time. But is that always the case? Actually, the answer is no.

It’s true that most incentive payments and bonuses must be included when calculating overtime. This is because most bonus payments that are based on criteria related to attendance, production, efficiency, quality or quantity of work, or any other work performance standard must be included. However, there are some exceptions. Those include payments made for gratuitous reasons, or those made as gifts on special occasions that aren’t determined by hours worked, production, or efficiency. These are considered to be purely discretionary bonuses. That becomes the key decision factor: whether the bonus or incentive payment is discretionary or non-discretionary.

Discretionary Versus Non-Discretionary Incentive Pay and Bonuses

“Bonuses obviously are a form of variable pay. They can either be based on general performance or specific performance. Bonus payouts are used to recognize performance. They’re usually based on subjective measures.” Katie Miller Busch explained in a recent BLR webinar. “Bonuses and incentives have most of the same components: [they’re] variable, tied to performance, [and can be] any form of payment. But [bonuses are] not predetermined or forward-thinking. With a bonus plan, employees will generally know that good work will get them a bonus at year-end, but they don’t know exactly how good that work needs to be.”

“That link there between performance and payout might be generally stated up front, but it’s usually not specific. Bonus pay recognizes performance in a discretionary way after it’s been demonstrated.”

In reality, organizations often use the two terms interchangeably, and employees don’t distinguish between the two either—even if they should. As such, the real distinction that matters is not whether the payment is labeled as a bonus or as an incentive. The distinction that matters is whether the payment is discretionary or non-discretionary.

A discretionary payment will be made at the sole discretion of the employer. The amount, the requirements, and the timing are not disclosed in advance. The employer alone determines what the reason is for providing the bonus and does so whenever they see fit. It is not done routinely. While bonuses more often fall into this category, an incentive payment can be discretionary if there is a gate-keeper that controls whether the payment gets made at all.

A non-discretionary bonus or incentive payment, on the other hand, is based on standards that have to be met in order to receive such payment. These requirements are determined at the outset of the payment period. Employees can reasonably expect to be paid the payment if the standards are met. This type of payment is made routinely—usually on a set schedule. They typically include things like payments for meeting production goals, profit numbers, etc. These types of payments must be included in the regular rate of pay and calculation of overtime.

For more information on how to know whether a bonus or incentive payment is discretionary or non-discretionary, order the webinar recording of “Incentive Pay for Non-Exempts: Tips for Creating an Effective and Legal Pay Plan.” To register for a future webinar, visit http://store.blr.com/events/webinars.

Katie Miller Busch is the owner of HR Compensation Consultants, LLC and offers more than 15 years of progressive compensation experience having worked in various industries, including high-tech, loyalty marketing, biopharmaceuticals, retail, manufacturing, and logistics solutions.