Variable compensation plans play an increasingly important role, especially for multinational organisations, but the rules vary from country to country. This article provides a comparative overview of some key clauses.
Variable remuneration is a component of remuneration that is linked to the results achieved by employees. Variable (or 'incentive') pay serves at least two different business purposes. On the one hand, it can help to improve the quality of the employees' lives and strengthen their sense of belonging to the organisation. On the other, it can represent a way to boost employees' motivation to develop the business, while also helping the employer to retain strategic human resources.
In recent years, variable remuneration plans have become increasingly important in all sectors and in all countries. Employers, especially those dealing with multiple jurisdictions, should however draft the relevant plans carefully, both because the communication aspect is essential to ensure the full and conscious consent and involvement of employees, but also for the legal consequences that may arise from them. There are several key clauses that may be included in an incentive compensation plan, and understanding their advantages, disadvantages and enforceability in each jurisdiction is essential for multinational employers.
One potentially problematic clause is the so called 'claw back' provision (i.e. a contractual arrangement under which the employee is required, in certain circumstances, to return an amount of variable remuneration which has already vested or been paid). In many countries the enforceability of such clause is doubtful. For example, Spain and Venezuela require the employee's express consent for a claw back provision to be enforceable. In the UK, for companies outside the financial services sector and the FTSE 350, a claw back clause must be reasonable and be based on a genuine pre-estimate of loss. In Portugal and Germany, while credit institutions and financial services companies are legally required to include claw back clauses with regard to variable remuneration paid to key employees, for general employees such a clause would be invalid. In New Zealand if an employer wishes to recover variable benefits which have been paid or vested, the contract must be very specific about the circumstances in which this can occur and provide the employer with the right to recover the overpayment. And in Chile the employer cannot claw back variable remuneration already paid out.
Conversely, following European regulation, in many EU member States a claw back clause is not only lawful but also mandatory. For example, Italy and Belgium provide for specific regulation of variable pay, including mandatory claw back provisions, for key employees in the banking and insurance sector and/or within listed companies. These rules are intended to align the interests of managers and directors with those of shareholders and to avoid the potential for hazardous risk management following excessive variable remuneration. Claw back clauses are also mandatory in the US for listed companies.
Another clause that can raise interpretation issues is the definition of good or bad leaver and the relevant consequences on variable remuneration. Generally, the right to receive variable pay after termination depends on the reason why the employment relationship terminated, for example whether it was terminated for just cause or disciplinary grounds ('bad leaver') or on redundancy grounds ('good leaver'). In most countries (including Belgium, Bulgaria, China, Finland, Greece, Hungary, Ireland, Italy, Latvia, Mexico, New Zealand, Poland, Portugal, Romania, Sweden, UK and Ukraine), employers have greater freedom to define these concepts in their incentive compensation policies and can provide for different consequences. Elsewhere however, such as in Spain, Germany, Austria and Chile, regardless of the reasons for termination of employment, if the targets to reach the bonus have been met the employee will be entitled to the corresponding payment, and no good/bad leaver clause can be included in variable remuneration plans.
In addition, the language in which a variable remuneration plan is drafted may be an issue in some jurisdictions. For example, all companies operating in Russia, including those owned by foreign investors, are required to use the Russian language in all office paperwork, while in Italy and in other countries such as China, Hungary, Germany and Sweden, employees need only be able to fully understand the plan.
These are only a few examples of terms and conditions that can be included in a variable remuneration plan. Many other aspects should be considered, including the following:
- Is there an obligation to carry out an information and consultation procedure with the unions before implementing or changing a variable compensation plan? In most countries it is not mandatory. However, in Bulgaria all internal corporate rules and policies must be coordinated with the applicable trade unions and employee representatives. Under Polish labour law, if a trade union exists at the employer, the employer must reach agreement with the union on the remuneration regulations (which usually include provisions on bonus and other variable remuneration). Similarly, in Germany, the establishment and amendment of variable compensation plans are subject to co-determination by the works council. In Mexico, if the variable compensation plan includes provisions that may be perceived as detrimental for union employees, it would be wise to consult with the unions; however, most variable remuneration plans in Mexico are not granted to union employees, but rather to management that by definition are not members of unions.
- Are 'malus' clauses (i.e. the reduction or elimination of variable remuneration amounts which have not yet vested and/or been paid) allowed? In most countries the answer is yes (and in some cases they are mandatory, such as in Italy and Finland for the credit and insurance sectors). In other countries such a clause is valid with restrictions (for example in Belgium, where malus clauses are generally not allowed, but are permissible in both listed companies and credit and insurance institutions) and in others, such as Ukraine, the concept of malus is not recognized under the applicable law.
- Can an employer provide for a minimum length of service as a condition for granting the variable part of the remuneration? This seems generally enforceable, so long as it does not violate anti-discrimination law.
- Are there formalities that need to be observed? For example, the employee's signature is not necessary in most cases, but it is nevertheless advisable to obtain it in order to have proof of communication and acceptance.
We have carried out a multi-jurisdictional survey of 24 countries to collect information on obligations and clauses that can or must be included in variable remuneration plans to support employers in navigating the various national laws and drafting effective and enforceable plans.
Incentive plans that reward individual performance or an employee's part in the organisation's success are a vital tool for employers to retain talent, promote motivation and create cohesion. But what provisions can or must employers include in incentive pay plans across the world and what formalities need to be respected when introducing them? This survey of 24 jurisdictions provides answers.
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The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.