Table of contents
Sales teams thrive on motivation. Compensation isn’t just about base salaries—it’s also about rewards that keep employees engaged and performing at their best. While structured bonus payments tied to quotas and performance metrics are common, some companies prefer bonus-based rewards that offer flexibility. This is where discretionary bonuses come in.
Unlike a promised bonus based on hitting specific sales numbers, these are given at the sole discretion of the employer. They are a great way to reward employees for outstanding efforts, loyalty, or contributions beyond their usual responsibilities. But how do they work, and how should companies implement discretionary bonuses effectively?
Let’s break it down.
What Is a Discretionary Bonus?
A discretionary bonus is a reward given to an employee without prior agreement or expectation. The employer decides when and how much to pay, often based on special occasions, company performance, or individual contributions. Unlike nondiscretionary bonuses, which are tied to specific performance metrics, discretionary bonuses are more flexible.
Key Features of a Discretionary Bonus:
- No prior commitment – The employer decides on the bonus payment without setting expectations in advance.
- No guaranteed amount – Unlike a referral bonus or attendance bonuses, the amount can vary.
- Based on employer discretion – The decision to award the bonus depends on the company’s situation, finances, and recognition of an employee’s efforts.
- Not tied to a strict formula – Unlike structured compensation plans, there are no fixed rules on how these rewards are distributed.
Example: A company closes a huge deal thanks to a salesperson’s extra effort. The leadership, recognizing this, decides to reward the employee with an unexpected cash payment.
Discretionary vs. Nondiscretionary Bonuses
To avoid confusion, let’s compare the two:
| Feature | Discretionary Bonus | Nondiscretionary Bonus |
| Tied to performance goals? | No | Yes |
| Promised in advance? | No | Yes |
| Legally required in wage calculations? | No | Yes (FLSA rules apply) |
| Example | Holiday bonus, retention bonus | Sales commission, attendance bonus |
According to the Fair Labor Standards Act (FLSA), only nondiscretionary bonuses must be included when calculating overtime pay, since they are considered part of an employee’s regular rate of pay.
Why Companies Use Discretionary Bonuses
1. Boost Employee Morale
A surprise bonus payment makes employees feel appreciated. Unexpected rewards can help motivate employees and improve company culture.
2. Increase Retention
Employees who receive the bonus feel more valued and are less likely to leave. Some businesses use retention bonuses to keep key performers on board.
3. Reward Outstanding Performance
While nondiscretionary bonuses rely on specific performance metrics, some contributions don’t fit into strict categories. Discretionary rewards let managers recognize exceptional efforts that go beyond the standard.
4. Maintain Flexibility in Compensation
Companies can use discretionary bonuses strategically, adjusting bonus-based rewards based on financial conditions. This helps avoid rigid payout structures.
Common Types of Discretionary Bonuses
Different companies use discretionary bonuses in different ways. Here are some common examples:
1. Spot Bonuses
A one-time bonus payment for outstanding work. Example: A salesperson goes beyond their targets and helps close an important deal.
2. Holiday Bonuses
Rewards given on special occasions, such as year-end celebrations. These are not promised bonuses but gestures of appreciation.
3. Retention Bonuses
Used to retain key employees, especially during mergers or leadership changes.
4. Referral Bonuses
Though often structured, some businesses offer discretionary referral bonuses when employees bring in exceptional talent.
5. Crisis or Unexpected Effort Bonuses
Given when employees step up during business challenges or urgent situations.
Challenges of Using Discretionary Bonuses
While these bonuses offer flexibility, they come with challenges:
- Perceived Favoritism – If not managed well, employees might think certain people get unfair advantages.
- Inconsistent Expectations – Without clear communication, employees might expect these rewards regularly.
- Legal Risks – Misclassifying a discretionary bonus as nondiscretionary can create payroll compliance issues.
How to Overcome These Challenges:
✔ Document the reason for awarding discretionary bonuses – Transparency avoids misunderstandings.
✔ Ensure fairness – Use consistent logic when awarding discretionary bonuses to prevent bias.
✔ Communicate clearly – Make sure employees know these bonuses are not guaranteed and depend on company performance and leadership decisions.
✔ Use automation to track bonuses and avoid compliance risks – Remuner’s platform helps businesses manage bonus payments and ensure compliance.
How to Implement a Discretionary Bonus Program
If you want to introduce discretionary bonuses to your compensation plan, follow these best practices:
- Define When and Why You Award Them: Set general guidelines for managers on when to grant bonus-based rewards.
- Align with Business Goals: Ensure bonuses encourage behaviors that contribute to company success.
- Keep a Record: Track all bonus payments to avoid tax and payroll issues.
- Ensure Legal Compliance: Make sure discretionary bonuses comply with labor laws and don’t affect hourly rates or overtime calculations.
- Use a Bonus Management System: Automation tools like Remuner can track bonuses and employees, ensuring fair distribution and payroll compliance.
What are the main reasons discretionary bonuses fail
Discretionary bonuses often fail to achieve their intended purpose of motivating employees and improving performance for several key reasons:
- Lack of transparency and consistency: The criteria for awarding discretionary bonuses are often unclear, leading to perceptions of unfairness and favoritism among employees.
- Reduced motivation: The unpredictability of discretionary bonuses can stifle effort, as employees may feel their work is futile if they don’t understand how to earn a bonus.
- Erosion of trust: The perceived lack of fairness in bonus distribution can lead to a loss of trust in management and decreased engagement.
- Poor communication: Bonus programs leaves employees uncertain about goals and how to achieve them.
- Failure to tie bonuses to company earnings: Bonuses to company earnings misaligns employee efforts with organizational goals.
- Reinforcement of functional silos: Distributing bonuses through functional pools can hinder cross-functional collaboration and create unhealthy rivalries.
- Lack of structural ties to individual performance: This can happen when bonuses are not clearly linked to specific performance metrics, they may be seen as arbitrary or unfair.
- Potential legal risks: Poorly designed bonus systems can lead to discrimination claims or issues with overtime calculations.
- Creation of employee uncertainty: The inconsistent nature of discretionary bonuses can cause employees to feel insecure about their compensation.
- Difficulty in challenging decisions: Employees may feel unable to question bonus decisions they perceive as unfair, leading to feelings of powerlessness.
These factors combined often result in discretionary bonus systems failing to achieve their intended goals of motivating employees and improving overall company performance.
Companies known for their generous discretionary bonus practices:
- Google: The tech giant is renowned for awarding random cash bonuses of $1,000 or more to its employees.
- Goldman Sachs: The investment banking firm offers substantial year-end discretionary bonuses linked to company profitability and individual performance. These bonuses can often be several times an employee’s base salary.
- Apple: The company offers significant retention bonuses, especially after acquisitions, to retain talent and ensure smooth transitions.
- Tesla: While not a traditional discretionary bonus, Tesla’s milestone-based bonus structure for CEO Elon Musk is notable for its potential to be one of the largest performance bonuses in corporate history.
- IBM: The company has offered project completion bonuses in certain roles, particularly in project-based environments like IT development.
These examples demonstrate how various industries use discretionary bonuses to motivate, retain, and reward employees. It’s important to note that the specifics of these bonus programs may change over time, and companies continually adapt their compensation strategies to remain competitive and align with business goals.
Final Thoughts
A well-managed discretionary bonus program motivates employees, improves retention, and adds flexibility to sales compensation plans. To avoid legal issues and ensure fairness, businesses should set clear guidelines and use automated tools to track bonus payments effectively.
Want to streamline bonus management and ensure compliance? Remuner’s compensation plan manager let’s you manage all comp plans in a single place. Activate and archive plans automatically, use compensation plans Sandbox, run scenario comparisons, set custom start and expiration dates and combine different currencies for each market.
FAQs About Discretionary Bonuses
Are discretionary bonuses taxable?
Yes, all bonus payments (including discretionary ones) are considered taxable income.
Can employees expect discretionary bonuses regularly?
No. Since they are based on the discretion of the employer, they are not guaranteed.
Do discretionary bonuses count toward overtime pay?
No, they are not part of the regular rate of pay unless they are misclassified as nondiscretionary bonuses.
How should companies track discretionary bonuses?
Employers should keep records of all bonus-based rewards. Remuner can help companies track and distribute bonuses effectively.
What industries benefit most from discretionary bonuses?
Sales, finance, and tech companies often use them to reward employees for exceptional performance.
