Bonuses vs. Earned Pay under an Employment Agreement: Key Considerations for Employers

For employees in sales and business development positions, compensation is often paid in the form of commissions-the more sales or the higher the profit (or whatever other metric is used), the higher the compensation. Under New York law, for the protection of both the employer and employee, the particulars of the commission structure must be specifically laid out in a written employment agreement. Earned commissions are considered earned wages which must be paid.

On top of salaries and/or commissions, some employers also offer bonuses to their employees based on the employer's or employees' overall performance in a given year. Bonuses are typically at the discretion of the employer and are not guaranteed. Accordingly, bonuses are not considered earned wages.

Employers that offer their sales employees both commissions and discretionary bonuses must be especially careful when preparing an employment agreement. If they are not careful, they may end up legally on the hook for payment of bonuses even if that was never their intention. There is a common phrase in the world of contract and employment law - "labels are not dispositive." That is, how one refers to or labels a relationship is not the defining factor; rather, one must look at the actual nature of the relationship to determine what it really is. This often comes up when a determination must be made as to whether a worker is considered an "employee" or an "independent contractor." An employer may hire someone as an independent contractor to get certain advantageous treatment, but, based on his/her function and responsibilities and the employer's degree of control, that person may legally be considered an employee.

In our context here, just because an employer labels a payment structure as a "bonus" in an employment agreement does not necessarily mean it will be treated as such. A "bonus" might be legally considered a "commission." The key to remember is that a true bonus must be entirely at the discretion of the employer-whether a bonus is to be paid at all and, if so, the amount of the bonus. However, if the "bonus" is to be based on the achievement of certain objectives established in the agreement, it may be considered a commission that the employer must pay when earned, pursuant to the Labor Law.

The New York State Department of Labor has offered the following guideline for differentiating between a commission and a bonus: if "the employee is given reason to believe that if he/she performs a certain amount of orders or sales then he/she will be paid a certain amount of compensation, then the money to be paid is a commission," as opposed to a bonus.¹ Employers must be cognizant of this and must be extremely careful when drawing up employment agreements for salespeople in order to minimize their liability down the road. An experienced employment attorney can help employers avoid this and other potentially costly pitfalls.

¹Source: Payment of Commissions Frequently Asked Questions - http://labor.ny.gov/legal/counsel/pdf/payment-of-commissions-frequently-asked-questions.pdf.