A quick post today, on the difference between a bonus and an incentive. We often use these two terms without making a true distinction, but in truth, they are slightly different.
Both of them cover elements of compensation that go above and beyond the normal, recurring income of the employee (base pay or basic + allowances). But they differ as follows :
A bonus is a payment which is backward-looking and usually discretionary or at least not expected from the employee(s). A decision is made to pay it to one, a group or all employees, based on criteria decided by management to reward past achievements, such as reaching a specific profit or some important milestones for the organisation, or in a totally discretionary manner.
So it is generally decided after the fact. A bonus is usually paid in cash, or sometimes in cash-equivalent such as stock options or other forms of equity. A bonus is non-guaranteed and usually on-the-spot (ie just after the ac tleading to its payment).
An incentive is a plan which is forward-looking. Payment is tied to the achievement of specific objectives that have been pre-determined and communicated to the employees that are on the plan. The purpose of the incentive scheme is to influence behaviour to reach the objectives by providing an incentive to work towards the goals.
An incentive can be paid in cash or in non-monetary award, for example some gifts or travel (especially for sales). The incentive plan is not discretionary : if the upfront, agreed objectives are reached, the payment or award is made.
I have written in the past about the importance of using the right words in compensation communication. Different industries and different companies will use the same word in different ways and that’s OK, but it is important that within your organisation, all your official communication, especially in writing, be consistent in using your term of choice, whether you chose to use “bonus” or “incentive”.
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Sandrine, perfect article – thanks
As always, straight to the point and easy to understand.
Keep up the good work!
Thanks Simin !
Most of the time people use bonus and incentive without knowing the fact.. appropriate word..now you made it clear..very nice article.
Thanks
DINESH
Dear Sandrine,
I’m replying to a five year old blog post, but I saw it shared on Linkedin just now so I hope you forgive me!
I agree that incentive plans are defined and agreed upon in advance, with a clear understanding of the target, thresholds, what the payout is at x target achievement, etc. But “on the ground” these incentive plans are usually referred to as bonus (at least in the markets I’ve worked in).
So to not confuse incentive plans what you’ve defined as bonus, I normally call these discretionary payouts “Gratification Payments”, or in some cases I’ve seen “Ex Gratia Payments” used.
Thoughts on that?
Thanks,
Glenn
Hi Glenn,
Comments are always welcome ! After 5 years, it proves the topic was “evergreen” ;-).
I think your choice of name for the discretionary bonus : “gratification payments” or “ex gratia payments” is totally fine and quite typical in some European countries. Also, if that’s how you call it, and your usage of the word is consistent over time, then it becomes part of the company culture so everyone gets to understand what it means.
In my part of the world, where most people are expats and some don’t speak very good English, it might sound confusing to people – or they may even struggle a bit to read Latin on a payslip. So I like to stick to a simple word even if it is a bit less accurate.
I don’t think it really matters as long as things are done in a legal way and don’t create undue expectations of payment, even when the bonus is supposed to be “discretionary” 🙂
Great, thanks for your reply.
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Hi Sandrine
My reply is after so many years of your article but the topics you are discussing are really core to the compensation business and they never age – thank you so much!
To be honest in our organisation the sales incentive has always been a cultural legacy of a guaranteed ‘entitlement’ or contractual obligation – although nothing in the employment contract is mentioned to this effect. ! It was an inherited culture from previous management which granted all other employees an annual discretionary bonus that was completely vague in terms of criteria and was not linked at all either to company performance or individual performance.
To help shift the culture I have started to deliberately, yet gradually, re-term and reposition the sales incentive as ‘sales bonus’- especially that our sales cycle is mostly annual, our sales targets are annual, and consequently incentive payments are annual. Also our base bay for sales people is high relative to target incentive (unfortunately a very strong industry norm and expectation), so our sales people do have a decent stable income, so we had to gradually introduce hurdles to the scheme to ensure satisfactory level of financial performance before any bonus is paid and ensure that all communications, contracts and policies clearly state that no form of incentive payment is guaranteed . On the other side, I have removed that legacy, ‘daddy’s gift type’ discretionary bonus for other staff and replaced it with a performance-based scheme with very clear criteria – which is also discretionary in nature.
I have just realised that I wrote a quite lengthy reply – my apologies!
Thanks a lot Khaled. Your comment is really on spot ! And I really like your approach to changing the culture in a meaningful way – good for the organisation, but also designed to be perceived as positively as possible by employees. Kudos to you !
Quick question: Is (payroll) taxation the same for incentives and bonuses, as you define them?
I guess it depends on the country, but generally speaking, incentives and bonuses, when paid out in cash, tend to be taxed the same as base salary. However for Long-Term Incentives which are based on equity there is often a different axation involved, which varies b type of equity plan and of course, country.