Bonus payments for senior executives: Legal implications
Bonus payments play a significant role in attracting and retaining top talent in senior positions in the UK. They are also often designed to incentivise high-level professionals to achieve specific performance targets and drive organisational success. However, the legal implications of paying bonuses have come under increased scrutiny and regulation in recent years.
This guide explores the legal framework governing bonuses for you as a top player in the UK, highlighting key considerations and potential implications. It includes practical tips on steps you can take to ensure that you avoid legal disputes in the areas outlined. See also our guides on Commission payments and Bonuses in employment termination packages. Links to other related guides are highlighted throughout.
1. Contractual agreements and bonus terms
Bonuses for senior executives and high-level professionals are typically governed by contractual agreements (see our guide on contracts for senior executives). These agreements outline the terms and conditions under which the bonuses are payable, including performance metrics, targets, and calculation methodologies.
Note that the legal enforceability of bonus provisions may vary depending on the specific contractual terms and circumstances. Courts in the UK generally recognise the freedom of parties to contract, but they may intervene if bonus provisions are found to be unfair, ambiguous, or in breach of any legal obligations.
In all matters to do with bonus payments:
- Ensure that your bonus terms are clearly drafted, communicated and understood by all parties involved.
- Consider whether bonus provisions are contractual rights or discretionary entitlements.
- Seek legal advice when your bonus terms are being drafted or revised, so as to ensure the terms are legally watertight and compliant with applicable laws and regulations.
- Maintain written records of bonus agreements and in particular any subsequent amendments/variations to bonus provisions or discussions about issues such as practical implementation.
2. Fiduciary duties and shareholder interests
Senior executives owe fiduciary duties to the companies they serve. These duties require the executive to act in the best interests of the company and its shareholders. When determining the appropriateness of executive bonuses, courts may consider whether the bonus schemes align with the company’s long-term objectives and promote sustainable growth.
To protect shareholder interests, UK law has introduced measures such as the “say on pay” principle. Under this principle, companies are required to provide shareholders with a non-binding vote on executive remuneration policies. This mechanism enhances transparency and accountability, allowing shareholders to voice their concerns if they perceive executive bonus payments to be excessive or out of alignment with company performance.
In order to meet legal requirements and shareholder expectations, it’s important regularly for you/your company:
- to communicate with shareholders about the rationale behind bonus schemes and how they align with the company’s long-term objectives.
- to undertake periodic reviews of your bonus scheme to ensure it promotes sustainable growth and shareholder value.
- to ensure that independent expert opinion is sought and/or that internal audits are undertaken, to validate the appropriateness of your own and all other bonus structures and payouts.
3] Regulatory framework: Remuneration committees and disclosure obligations
The UK Corporate Governance Code and various regulations impose requirements on companies regarding the establishment of remuneration committees and the disclosure of executive remuneration details. Remuneration committees are typically composed of independent directors and play a critical role in setting executive pay, including bonuses.
These committees are responsible for ensuring that bonus schemes are designed to promote the long-term success of the company while considering wider stakeholder interests. They are expected to exercise sound judgement and avoid rewarding short-term gains at the expense of sustainable value creation.
Companies are also required to disclose detailed information about executive remuneration, including the structure and performance criteria of bonus schemes, in their annual reports. This level of transparency aims to provide shareholders and stakeholders with a clear understanding of the company’s executive pay practices.
From a legal perspective, you should expect your bonus package to be scrutinised periodically by a remuneration committee that includes independent directors with expertise in executive compensation. Bearing that in mind, you will wish to ensure that your package complies with all relevant regulations and related legislation.
4] Clawback provisions and forfeiture of bonuses
In cases where a senior postholder engages in misconduct or the company’s performance declines significantly, clawback provisions and bonus forfeiture mechanisms may come into play. Clawback provisions allow companies to recover bonuses already paid or to cancel unpaid bonuses in certain circumstances. It is important that you fully understand any such provisions and the potential impact that enforcing them could have.
The Companies Act 2006 provides a statutory basis for the clawback of bonuses and allows companies to include appropriate provisions in your employment contracts. The circumstances under which clawback provisions can be invoked vary, but they often relate to breaches of regulatory obligations, financial misstatements, or unethical behaviour.
Clawback provisions serve as a deterrent against executive misconduct and provide companies with a means to protect themselves from reputational and financial harm caused by an executive’s wrongdoing.
As a senior executive, it’s important for you to ensure that specific clawback provisions are incorporated in your contract which clearly and unambiguously outline the circumstances under which bonuses can be forfeited by, or recovered from you.
The adequacy and effectiveness of the clawback provisions in your contract should also be periodically reviewed, to ensure that they take account of evolving business environments and potential new scenarios that may trigger their activation.
We recommend that you seek legal advice when the clawback provisions in your contract are being drafted, revised or implemented, so as to ensure compliance with relevant laws and to avoid unintended consequences.
5] Discrimination and equal pay considerations
The UK has strong legislation against discrimination and requires equal pay for equal work (ie work that equal pay legislation classes as having the same, similar, equivalent or equal value). When designing bonus schemes, companies have to ensure that they do not discriminate against any protected characteristic, such as age, disability, pregnancy/maternity, race, religion, sex or sexual orientation. (See our discrimination at work guide for a full list of protected characteristics).
Your own bonus package should be awarded based on objective performance criteria that are free from bias or unfairness. If your company fails to comply with equal pay requirements you can bring a claim against them, which would potentially damage their reputation and could lead to substantial financial penalties against them.
Your bonus scheme should be regularly reviewed so as to identify any potential biases or discrimination in its design or implementation.
Decisions about your bonus allocation should be made as part of a diverse and inclusive bonus allocation process. This process should involve multiple stakeholders to minimise the risk of bias.
If you are involved in making decisions about other people’s bonuses, you would also be advised to seek training about equal pay requirements and how to avoid bias when making bonus decisions.
Bonuses form a significant component of remuneration for senior executives and high-level professionals in the UK. While they serve as powerful tools for incentivising performance and attracting top talent, their legal implications should not be overlooked.
The Senior Solicitors at Monaco Solicitors are dedicated solely to practicing employment law. They have years of experience of successfully helping senior individuals through the intricacies of drafting bonus terms and dealing with legal issues associated with bonus implementation.
Whether you’d like advice on your bonus package, or representation to resolve a bonus-related problem, we can help. For a confidential consultation to discuss your options, do get in touch:
- via this link
- by phone: 020 7717 5259
- by email: email@example.com