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Understanding Variable Pay, Part II - Bonuses

By Barbara Morrow, MBA

Cash bonuses are used by many companies as they strive to attract talent to the organization, foster employee satisfaction, and improve retention of good employees. Cash bonus plans are typically discretionary and are used for recruitment (sign-on and referral bonus), recognition (spot bonus), and retention (retention bonus) purposes. Bonuses are subject to payroll taxes.

The common bonus plans are briefly described below.

Sign-On Bonus

A sign-on bonus is an incentive that is used by companies to entice potential candidates to apply for difficult-to-fill job openings and/or to recruit talent that is in high demand. The amount of the bonus varies based on the position and other factors related to the particular organization. Since a signing bonus is not included in base salary, internal compression and equity problems can be averted.  

Companies can add restrictions to the signing bonus, such as conditioning it upon continued employment for a specified minimum period. If the specified period of employment does not occur, repayment of the bonus may be required. To avoid the need for repayment of the bonus, some companies choose to prorate it over a period of time

Referral Bonus

A referral bonus provides an incentive for employees to refer quality job candidates who they know. This internal referral process can reduce overall staffing costs.

In many companies, only employees in certain levels of the organization are eligible to participate in the employee referral bonus program. Organizations need to decide on who can participate and the timing of the cash award payment. Payments are usually “grossed-up” so employees actually receive dollars after taxes have been applied.  

Spot Bonus

A spot award is given at the time of an event achievement. It demonstrates appreciation for a contribution by an individual or team that is above and beyond their normal work efforts.

Typically, spot awards are based on direct observation and/or feedback from others for value-added effort or results. Examples include implementing cost-saving ideas or solving a complex issue with creative ideas. Companies that have reduced their salary budget find that a spot bonus is an affordable option that makes a valued employee feel appreciated.

Retention Bonus

A retention bonus is a contract to pay an employee a certain dollar amount upon the occurrence of a specific event or date. These bonuses should be used on a selective basis to retain employees with critical skills and/or to deter high-potential employees from leaving the company. Companies determine whether or not it is viable to grant a retention bonus by examining the issues (i.e. cost and time to hire a replacement) that it will face if the needed talent leaves the organization.  

In summary, cash bonus plans can contribute to a company culture that seeks to formally recognize employee contributions. When implemented effectively, they can play a vital role in the performance and recognition component of total rewards.

Source: WorldatWork, Handbook of Compensation, Benefits & Total Rewards, Chapter 15, Pages 338-365.

Barbara Morrow


Barbara Morrow is a Compensation Consultant at Strategic Workplace Solutions, Inc. She helps organizations understand total reward strategies and develop base and incentive compensation programs.



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