Confessions of a Plan Documentation Zealot

It's true.  I have strong feelings about the importance of documenting compensation plans.  Particularly (but not exclusively) plans that put pay at risk, like incentive or bonus plans.

Why?  Two reasons, primarily.

1. Because I believe that when you put a portion of an employee's pay at risk based on something, you owe them as clear an explanation as possible -- in writing -- about what that something is and what must happen in order for them to earn the money.

2. To paraphrase a famous quote, stuff happens.  There are a wide range of circumstances that can arise during the course of a plan year -- on the side of the employee or the employer.  These range from something as basic and predictable as a participant resigning, retiring or going on disability leave to the employer encountering unanticipated economic or operating circumstances.  In view of this reality, it's important to be as clear as possible about how award decisions will be made under the scenarios you can anticipate and about your discretion in handling those you cannot.

Variable pay plans, in particular, are a contract of sorts with an economic exchange at their core.  As such, their effectiveness is contingent on a level of trust in the employer.  Squander that trust just once -- something amazingly easy to do with an undocumented plan -- and you'll have a deep hole to climb out from if you ever want to try tying pay to performance again.

What is a plan document and what should it contain?  Here, from my own experience, are a few of the basics.

Introduction.  This section is typically used to highlight the purpose and objectives of the plan.

Plan Design.  This section reveals the structure of the plan, details award opportunities and performance metrics, and lays out how the plan works mechanically.  Essentially, this part of the document should explain clearly to a plan participant how he or she earns an award.

Plan Administration.  This section typically lays out all the administrative features of the plan.  This includes who is eligible, the plan year, what happens to awards in the case of termination, disability or death, and the necessary legal language and requirements.  Additionally, this is the place to note who serves as Plan Administrator and clarify what that individual's/group's rights and responsibilities are relative to the plan.

Signature.  I also favor a signature block where plan participants, by signing and dating a copy of the document, testify that they have read the document and agree to participate in the plan on the terms outlined there.

What's your position on plan documentation?  What key sections and/or features do you feel are helpful and important beyond the basics that I've outlined above?

Ann Bares is the Founder and Editor of the Compensation Café,  Author of Compensation Force,  Managing Partner of Altura Consulting Group LLC, and a proud co-author (along with Cafe cohorts Margaret and Dan) of the newly published book Everything You Do in Compensation is Communication.  Ann serves as President of the Twin Cities Compensation Network (the most awesome local reward network on the planet) and is a member of the Advisory Board of the Compensation & Benefits Review.  She earned her M.B.A. at Northwestern University’s Kellogg School, is a foodie and bookhound in her spare time. Follow her on Twitter at @annbares.

Image "Businessman Holding Blank Paper" courtesy of pakorn/FreeDigitalPhotos.net

Comments

[Tony Bergmann-Porter]

Movie mogul Samuel Goldwyn is widely (mis) quoted as saying that "A verbal contract isn't worth the paper it's written on."

I'm completely with Ann on this. Any variable plan had better be well-documented, because if it isn't, you can be absolutely certain that something will turn around and bite you.

I'll add a couple of observations to Ann's framework:

Somewhere around the "plan design" section, it's a good idea to lay out precise definitions of various terms used in the document ("Base Salary means....").

When I create these documents, I use the spelling and grammar review function in Word to ensure that what I have is as close to 10th grade (or lower if possible) reading comprehension level. I also try to have a nonexempt employee read the document and then tell me in their own words what they have just read.

[Ann Bares]

Right on the money, Tony, thank you! Completely agree about the "glossary" or definition of terms. Critical element of a plan document.

And yes - review and correct for readability. Plain English, no compspeak and minimal lawyerese!

Thanks for the comment!

[Jim Johnson]

Ann, I'm also in the same camp with you when it comes to stellar plan documentation.

I've found that in addition to the points you've included, providing a couple of realistic examples (in the Plan Administration part of the document) showing how the plan delivers under an "exceeds" scenario and a "partially meets" scenario usually adds clarity that, otherwise, seems to always be missing, even in the best written plan documentation.

[Sid Anderson]

Aren't formal plan documents for bonus plans a requirement for Proxy statements for public companies?

[Ann Bares]

Excellent point, Jim - thanks for making it. Nothing helps dispel any remaining fog around how a plan works and how awards are earned than a couple of realistic examples.

Good to have such great company in the documentation zealothood camp!

[Ann Bares]

Sid,

They may well be, particularly for executives/management of public companies - but there are plenty of other employees (in privately held and nonprofit organizations, below the top management ranks, etc.) where documentation is not required and often given scant, if any, attention. It's more to these situations that I am directing my post.

Thanks, however, for noting this. My practice purposefully avoids executive compensation in the publicly held realm, so can't answer your question definitively - but I suspect another reader will be able to do this.

[Joe]

I was reading and nodding until I got to the signature section. Unless there is a requirement to do so, I stay away from that. It's a little wasteful and paternalistic... right?

[Ann Bares]

Joe:

Interesting question - thanks for raising it.

Wasteful and paternalistic? I'm not sure I agree. Part of the reason I include a section like this more and more is that my clients are running into situations where participants, in claiming that awards are owed them when they are not, will claim that the plan document was not shared with them or that they did not understand it. From my perspective, it not only provides some level of protection to the employer - it also makes the point to employee participants that they should take the steps necessary to get crystal clear on plan rules if they don't understand any of them.

Some organizations will have places for employer and employee signatures, to make the point that it is a mutual action and agreement, rather than a paternalistic one.

That's my take anyway. Would love to hear what others think on this question. Wasteful and paternalistic? Smart and necessary? Does it depend?

[Sid Anderson]

Gets a bit cumbersome in a company with thousands of employees. You have to make sure everyone signs that they have received it and then later when changes are made. If you have a good way to send it to them by name, such as e-mail, or make them aware of where they can view a copy, that should be sufficient. ERISA requirements for benefit plans operate this way.

[Tony Bergmann-Porter]

@sid:
No reason you couldn't automate it.

But all such measures are - ultimately - lawsuit protection. The need for them is largely a function of your organization's demographics and culture.

[Dan Walter]

I'm a bit late but wanted to jump on board. Plan document is so so essential. And with today's technology it doesn't need to be cumbersome. Online tools can make the process clean and easy.