With the fourth quarter rapidly approaching, many companies are thinking about incentive compensation plans for 2023. We frequently become involved in disputes between employers and employees over the terms of such bonus plans. In hindsight, many of these issues could have been avoided had the bonus plan dealt upfront with specific contingencies relating to qualification and payment.

In the event of a dispute with an employee over the meaning of the bonus plan’s terms, any ambiguities will typically be interpreted in the employee’s favor. For example, what happens if the employee does not work the full year or other bonus period? Do they forfeit the bonus, or are they entitled to a pro rata payment? What is the bonus payment date, and does the employee have to be employed on that payment date to receive it? State laws vary on the ability of companies to require forfeiture of the bonus after completion of the bonus period.

Other questions can also result in disputes over the bonus plan. If it is based on the achievement of certain financial or other targets, who determines whether those goals have been met? Are there any extraordinary expenses or circumstances that should be taken into account when determining those targets? Can the bonus be clawed back if, after payment, the company adjusts its financial results or discovers misconduct on the part of the employee?

Many of these same concerns also apply to employee commission plans. Prior to announcing the incentive plan, the employer should carefully think through various contingencies. These conditions should be explained to affected employees in a written bonus plan, provided at the beginning of the year or other bonus period. A little advance planning can help avoid later disputes over the meaning of unclear bonus plan provisions.