By Laura Pokrzywa, Human Resources Consultant
Employers who offer bonuses know they are an effective way to motivate employees, improve performance, increase retention, and boost employee morale. But bonuses also complicate wage and hour compliance when it comes to overtime calculations, as detailed in a recent Opinion Letter issued by the U.S. Department of Labor’s Wage and Hour Division (DOL).
Some bonuses are “discretionary” and some are “non-discretionary.” The DOL’s letter confirmed that non-discretionary bonuses must be included in an employee’s regular rate when calculating overtime under the Fair Labor Standards Act (FLSA). If an employer fails to include such bonuses in overtime calculations, they may face legal claims including wage theft.
When is a Bonus Discretionary?
According to the DOL’s Fact Sheet #56C, a bonus is discretionary only if it meets all of the following requirements:
- The employer has the sole discretion, until at or near the end of the period that corresponds to the bonus, to determine whether to pay the bonus and the amount of the bonus; and
- The bonus payment is not made according to any prior contract, agreement, or promise causing an employee to expect such payments regularly.
In other words, discretionary bonuses are not based on pre-established criteria, specific metrics, or an announced or implied promise by the company. Rather, they are truly at the discretion of the employer. Discretionary bonuses might include a bonus given to an employee who made a unique or extraordinary effort, an employee-of-the-month bonus, a severance bonus, or an end-of-the year bonus that was not announced in advance or is not given on a regular basis (no expectation established).
When is a Bonus Non-discretionary?
A bonus is nondiscretionary if it fails to meet the statutory requirements of a discretionary bonus. Examples of nondiscretionary bonuses include:
- Bonuses based on production quotas (for an individual or a group)
- Bonuses for quality and accuracy of work
- Attendance bonuses
- Service anniversary bonuses
- Safety bonuses (i.e., number of days without safety incidents)
These bonuses are incentives announced by the company. Employees understand that these bonuses can be earned by meeting certain performance or attendance criteria established by the company. The DOL cautions that bonuses are classified as discretionary just because an employer has the option not to pay the promised bonus.
What about Profit-Sharing?
Profit-sharing bonuses are frequently classified incorrectly. Even though payment of the bonus and the amount of the bonus are at the full discretion of the company, if the bonus is announced in advance and/or regularly awarded, it is likely a non-discretionary bonus. This applies to annual year-end bonuses, as well. Like other non-discretionary bonuses, if the company establishes a reasonable expectation among employees that the bonus will be awarded based either on overall performance or company profits, the bonus should be included in the regular rate of pay.
How is Overtime Pay Impacted?
Non-discretionary bonuses must be allocated to the workweek in which they are earned. To calculate that payment, add the bonus amount to the employee’s total wages for that week, then divide that total by the hours worked. That will result in the adjusted regular rate for that week. If overtime pay is owed for that week, you must base overtime pay on the adjusted pay rate. If a bonus covers multiple weeks, divide the bonus amount across the weeks to adjust the regular rate for each week.
Discretionary bonuses are excludable from the regular rate of pay. Therefore, they are not included when determining overtime pay rates.
What if We Have Been Paying Incorrectly?
The standard time limit for an employee to file an overtime claim is two years. However, it can be extended to three years if the court determines that the underpayment was intentional. If an employer suspects they have neglected to include non-discretionary bonuses in overtime calculations, it is best to review pay records looking back two years. If you find errors, consult with your legal counsel to determine the best way to remedy those errors.
Employers can enjoy the benefits of a strategic bonus plan by ensuring their plan complies with the overtime pay requirements of the Fair Labor Standards Act.
As always, employers must also consider applicable state wage and hour laws that may include provisions that vary from those of the FLSA.
If you are an employer with questions about bonus plans or if you have questions about any HR issue, contact our Risk Management Division by phone at 855-873-0374 or by email at . We are happy to help!
Disclaimer: This information is for informational purposes only and not for the purpose of providing legal advice. This article does not create an attorney-client relationship between Keystone’s Risk Management Division and the reader.