Immunizing Formula-Based Comp Systems

It's that time of year when we start thinking about going back to school. We stock up on loose-leaf paper, pencils and pens. Backpacks fly off the shelves. Shopping bags are filled with brand new sneakers. And, depending on their ages, we get our children immunized.

Taking your kids to get their shots is a great time to think about immunizing your formula based compensation system. It's like checking your smoke detector batteries when you change the clocks - "immunize kids, immunize comp system".

It turns out that immunizing your formula based compensation system is easier than vaccinating your kids - it hurts less and there are fewer tears! And thanks to a decision earlier this year by a federal judge in the Southern District of New York, it's easier than ever!

Here's a little background... The case was about a bonus payment program that was tied to the level of sales production. Normally, formula-based compensation systems are protected under Section 703(h) of Title VII:

[I]t shall not be an unlawful employment practice for an employer to apply different standards of compensation, or different terms, conditions, or privileges of employment pursuant to a bona fide seniority or merit system, or a system which measures earnings by quantity or quality of production or to employees who work in different locations, provided that such differences are not the result of an intention to discriminate because of race, color, religion, sex, or national origin...

In this case, plaintiffs argued that the bonus program was not protected under Title VII because sales production was infected with discrimination. They also argued that defendants knew about this infection but adopted the bonus program anyway, and because of this an "intent to discriminate" can be inferred.

The court held that a pay system that compensated people on the basis of actual production is protected from disparate impact claims under Title VII, irrespective of whether the pay system has a disparate impact on minorities or women and irrespective of whether the employer knows that it will have a disparate impact.

The ruling stated that a merit, seniority, or production-based compensation system is 'bona-fide' if it applies equally to all employees in the same way. And even if the compensation system perpetuates the effects of other acts of discrimination that clearly violate Title VII, as long as the compensation system itself was adopted without discriminatory intent, it is immunized under section 703(h) of Title VII. In this case, the court found that the program was adopted without discriminatory intent; the court held that knowledge of past and even present discrimination alone doesn't make it plausible that defendants actually adopted the program with discriminatory intent.

So, how do you immunize your formula-based compensation system? Make sure that it's 'bona fide'. A bona fide system is one that:

• was adopted without discriminatory intent;
• is an established system based on predetermined criteria for measuring seniority, merit, or productivity;
• has been communicated to employees;
• has been consistently applied to all employees, regardless of gender, race, national origin, etc.

And it's important to document all of this. Make sure that the business reasons for adopting the program are delineated, and that the criteria used in the system are thoroughly documented. Communicate the program to the employees in writing, and make it clear to them exactly how their compensation will be determined. Most importantly, once you have the formula-based system in place, follow it! Apply it consistently, without fail.

Making sure your formula-based compensation system is bona-fide will go a long way in immunizing it from claims of discrimination. And you won't even need a band-aid afterwards!

 

Stephanie R. Thomas is an economic and statistical consultant specializing in EEO issues and employment litigation risk management. For more than a decade, she's been working with businesses and government agencies providing expert EEO analysis. Stephanie has published several articles on examining compensation systems with respect to equity. She is the host of The Proactive Employer, and is the Director of the Equal Employment Advisory and Litigation Support Division of MCG.

Comments

[Paul Weatherhead]

Thanks for another great post Stephanie!

Isn't there still a problem even if you have all four of the criteria for a bonafide system?

Your fourth bullet -- "has been consistently applied to all employees, regardless of gender, race, national origin, etc." could be a problem. Let's say you treat all protected classes consistently, but a protected group consistently does bad. Then don't you have an "impact" dilemma?

Heard on the news that NY firefighters are facing this dilemma right now. A promotion test is considered valid for questions related to firefighting; but because a protected class has a very high "fail" rate, promotions are denied to white males who "pass" the test.

Social equity is one thing, but public safety is another.

Somewhere we have to stop this madness!

[Stephanie Thomas]

Hi Paul,

Thanks for the comment. The disparate impact issue you raise is exactly what the court was addressing. The decision I mentioned in the post related to a stay bonus program for financial advisors at Merrill Lynch / Bank of America. The bonus program was based on a measure of "production" of the financial advisors. Plaintiffs held that certain protected groups had lower levels of production, and therefore the bonus program was discriminatory.

The court held that because the formula was applied equally to all employees, the program was not discriminatory. So even if a protected group performs worse relative to another group, if the formula is applied uniformly (i.e., same percentage of gross sales paid out in commissions to men and women, men and women are evaluated on the same objective criteria in the same way)the compensation system as a whole is OK. If plaintiffs want to challenge the process, they need to challenge the criteria that serve as inputs to the formula. But that's a different issue and a different claim.

The disparate impact claims you mentioned about the NY firefighters is also different. Because it's a testing situation, the protections I discussed in the post don't apply. They would also not apply if there were claims of disparate impact in a hiring process, promotion selection, termination, etc. The claims - and defenses - differ depending on the type of employment process being challenged.

[Paul Weatherhead]

Thanks for the follow up, Stephanie.

Is anyone's head spinning besides mine?