Why Create an Employee Bonus Plan?

Michael Tribble

Are you considering implementing a bonus plan for your employees? The first thing you should do when structuring a bonus plan is to decide why you’re creating the plan in the first place.

  • To share the company’s profits with employees?
  • To reward employees for company and/or individual success?
  • To boost employee morale and retention?
  • As a response to your competitors who are offering bonuses to their employees?

The answers to these questions will help you determine the structure of your bonus plan. Ideally, the bonus plan will motivate employees to focus their efforts and energy on activities that will help achieve specific company goals. Bonuses tied directly to profits are also referred to as profit-sharing plans, which provide you with maximum flexibility: If profits suffer during the year, the company payout is lower (if anything). Keep in mind, however, that this can have a negative effect on employee morale if employees believe that the work they did had little if any direct impact on profitability (or lack thereof).

One way to avoid this problem is to structure your bonus plan around the achievement of specific individual goals by each employee. This gives employees more control over whether they will receive a bonus, and how much. Or, you can structure the plan around the achievement of specific goals by departments or teams, over which employees may feel like they have more direct control.

Structuring the plan

Consider the following five things when structuring any type of employee bonus plan:

1. Put it in writing. Document the details of the bonus plan and make sure the plan and structure is clearly communicated to all employees.

2. Tie the bonus to measurable performance standards. Financial rewards should be contingent upon the achievement of specific and measurable standards. Preferably, employees should be able to exert some degree of influence on these standards.

3. Encourage employees to help meet annual company goals. As noted above, bonus plans can be structured to provide employees with financial incentives to help meet specific company goals, whether financial or otherwise. These are usually annual goals that are measured at the end of the year.

4. Make the bonus large enough to be a strong incentive. A one-time $100 bonus isn’t going to be a very strong incentive for most employees. One benchmark is to give employees the opportunity to earn up to 10 percent of their regular wage or salary in additional bonus.

5. Use the plan to create employee loyalty to your company. Ideally your bonus plan will encourage key employees to stay with your company for the long term. Non-qualified deferred compensation plans, stock options and phantom stock plans are specific types of executive bonus plans often used to accomplish this goal.

One of the biggest benefits of bonus plans is that they can encourage your employees to think and act like business owners, not just employees. Giving employees the opportunity to reap financial rewards based on their individual or team’s performance can help prompt them to work harder and make better decisions that are in the long-term best interests of your company.

If you have questions or need assistance with establishing an employee bonus plan, please contact me at mictri@yeoandyeo.com or by phone, 989.793.9830.

Michael Tribble

Michael Tribble

CPA

Michael Tribble is a member of the firm's Tax Services Group, Construction Services Group, Death Care Services Group and Estate & Trust Group. His areas of expertise include tax planning and preparation, with an emphasis on the construction industry and not-for-profit organizations. Mike serves as a director for the National Association of Home Builders and the Michigan Association of Home Builders. He is also past president of the Home Builders Association of Saginaw.