Switzerland: Recent Developments Regarding Bonus Entitlement

At a time when high salaries and bonuses are subject of criticisms, the Swiss Supreme Court has clarified the conditions under which an employee may assert a right to a bonus.

1 OVERVIEW

1.1 Legal characterization of bonuses

Swiss law does not contain any provision that specifically defines and deals with the question of bonuses. Depending upon the agreement between the parties, as well as the nature and circumstances of the payment, a bonus will be legally defined either as a gratuity within the meaning of Art. 322d of the Code of Obligations (hereinafter: "CO"), or as a part of a salary within the meaning of Art. 322 to 322b CO. The legal characterization of the bonus is important, since the legal regime applicable to gratuities is much more flexible than the one applicable to the salary components, which are subject to numerous protective rules regulations.

Thus, in case of beginning or end of the employment relationship during the course of a year, a bonus, if characterized as a part of the salary, will have to be paid pro rata temporis. If the bonus is characterized as a gratuity, it has to be paid pro rata temporis only if so agreed. The payment of a bonus characterized as a salary component shall not be subject to the requirement that the employee is still working in the company at the time of the payment, whereas payment of a bonus characterized as a gratuity may be subject to such a condition. The payment of gratuities may also validly be subject to the condition that the employment relationship has not been terminated. In other words, an employee still working in the company at the time of notification of bonuses, but whose employment contract has already been terminated, may legally be denied payment of any gratuity for the current year.

1.2 Criteria for the characterization of Bonuses

In order to characterize a bonus as a salary or as a gratuity, one needs to go beyond the use of either term by an employer in the contract, staff regulations, or any other document. One needs to take into account the distinguishing criteria developed by the case law.

The first distinguishing criterion is linked to the employer's discretionary power. A gratuity requires a certain degree of discretion. If no discretion is left to the employer with regard to the principle and the amount of a bonus, it will be characterized as salary. Hence, a remuneration of which amount and due date of payment are unconditionally set in advance must be regarded as salary. Such is the case with the thirteenth month's wage and any other similar payment entirely determined by contract. When the amount is not set in advance, but depends on a pre-determined arithmetical rule, leaving the employer no discretion, it is also considered as a salary component which, depending on the circumstances, may be governed by Art. 322a CO (share of the operating profit) or by Art. 322b CO (commission). That is what happens, for example, when an employment contract provides that the employee will be paid a fixed bonus amounting to 15% of the fees received by a company or 3% of the income of the assets under management that the employee is in charge of. This remuneration constitutes a salary component because the employer has lost all discretionary power with regard to the decision of granting this payment.

The second distinguishing criterion is linked to the incidental nature of the payment. This criterion seeks to prevent employers from classifying as gratuities amounts, which in fact constitute parts of an employee's salary. This risk exists whenever the bonus appears to be particularly high compared to the employee's fixed salary. The bonus must consequently remain incidental compared to the salary in order to be characterized as a gratuity. In this context, the Swiss Supreme Court has ruled in several cases that the incidental nature of a payment no longer appeared to be guaranteed when the amount of the gratuity was routinely higher than the salary. In a recent judgment, the Swiss Supreme Court nonetheless limited the application of this principle. This matter will be discussed in more detail below (see Section 3).

1.3 Mandatory gratuity

Besides the circumstances in which bonuses must be classified as salary, Swiss case law and doctrine also admit other situations in which employees may assert a right to their payment (mandatory gratuity).

The most common case is that in which an employer undertook, in an agreement or unilateral commitment, to pay an employee a gratuity. This can result, for example, from an employer informing an employee that next month the latter will receive a special one-off payment of a specified amount.

The second case is based on the principle of legitimate expectation. A gratuity may be considered as agreed on when an employer has made a payment without interruption for three consecutive years without specifying the optional nature of the payment by means of notification addressed to the employee concerned. In fact, an employee who routinely receives a bonus without any reservation being expressed may legitimately rely on the principle that such bonuses will be paid in subsequent years. For that reason, most employers wary of avoiding such consequences, express reservations that insist on the exceptional and discretionary nature of the payment in question, when issuing communications relating to bonuses. These clauses are often reiterated in identical terms every year, such that some employees argue that they are merely figures of speech with no effective application. If this argument is admitted as being wellfounded, those employees may then rely on the mandatory nature of the gratuity, based on the principle of legitimate expectation. This matter will be addressed in more detail below, the Swiss Supreme Court having made some clarifications in this regard in a recent ruling (see Section 2).

Finally, equality of treatment and the prohibition of gender discrimination may also limit the employer's discretion within the context of bonus payments.

2 RESERVATIONS AS TO THE OPTIONAL NATURE OF A GRATUITY

More generally, it is admitted that the reservation as to the optional nature of a gratuity is ineffective when it is merely an empty formula and if the employer shows by his behaviour that he feels obligated to pay it, despite expressing a reservation. Such would be the case if an employer paid an employee a bonus notwithstanding the fact that the circumstances or the behaviour of the employee in question in no way justified it; for example because business has been extremely bad or when an employee has evidently behaved so disloyally that the payment of a bonus would be surprising in such a context. In these hypothetical circumstances, the employee may in good faith believe that his employer considers himself bound to pay an annual bonus as a complement to salary, despite having notified a reservation in this regard.

In May 2012, the Swiss Supreme Court found that only when a bonus had been paid for at least ten years could questions be asked as to whether the reservation regarding the optional nature of the bonus was merely a figure of speech (judgment 4A_26/2012).

This decision concerned a bank employee who had received bonuses for nine consecutive years, from 1999 to 2007. The bonus payments were all accompanied by reservations expressed as to their optional nature, except for the one paid in 2007. The employee had argued that the reservations expressed by his former employer in exactly the same way year by year, when the regular payment of the bonuses was made, constituted statements devoid of meaning, and hence were ineffective by law.

The Swiss Supreme Court then explained that, depending on the circumstances, a gratuity may be due even though, year by year, an employer may have repeatedly expressed a reservation on the subject. It stressed that the failure to renew the reservation at the time the bonus was paid for the year 2007 in no way permitted it to conclude that a tacit agreement had been concluded giving rise to an obligation to pay the employee a gratuity. It further noted that a single and inadvertent failure to express a reservation did not lead to the conclusion that an agreement existed under whose terms it had been agreed to pay the gratuity. The Swiss Supreme Court then found that it was impossible to admit that the reservation, constantly expressed by the bank in order to avoid giving rise to an entitlement to the gratuity, had become devoid of meaning, or in other words had become ineffective. According to the Supreme Court, for that to be the case it would in particular have been necessary for the gratuity to have been paid for at least ten years. Since the bonus had only been granted to the employee for nine years, it could not be concluded that the payment of the annual gratuities had been agreed through unmistakable acts. The consequence of this decision is that only when a bonus has been paid for ten years can it be considered whether a reservation stating the discretionary nature of that payment might merely be an empty formula and contradicted by the circumstances, or whether, on the contrary, the reservation is a true expression of an employer's intention.

3 DETERMINATION OF THE ACCESSORY NATURE OF A PAYMENT

3.1 Context

In February 2009, the Swiss Supreme Court made a highly controversial ruling (judgment 4A_509/2008).

The case concerned a trader who was receiving a fixed gross annual salary of CHF 160,000, later increased to CHF 263,000 with effect from 1st January 2006. For the years 2001, 2002 and 2003, the trader had additionally been paid in particular gross one-off bonuses of CHF 792,000, 340,620 and CHF 913,590. The employee had then been notified that he would receive a one-off bonus in 2005 of CHF 1,110,000, in recognition of his contribution in obtaining the results for 2004. Finally, he was informed that a one-off bonus set at CHF 1,792,000 would be paid to him for his work in 2005. Half of that bonus was to be paid in February 2006 and the other half in September 2006, provided that his employment contract had not been terminated by 31 August 2006. The employee resigned with effect from 31 May 2006, but nonetheless demanded payment of the one-off bonus. The Swiss Supreme Court took into account the sums in question, observing that the bonus was not incidental compared to his salary, and applied the salary protection rules to the totality of the amount of the payment. Consequently, the condition according to which the bonus would only be paid provided that the employment contract had not been terminated by 31 August 2006 was invalid and the employee was entitled to the promised bonus.

This judgment has been subject to many criticisms by various authors, who consider that the Swiss Supreme Court violated the rules governing the contractual freedom of the parties by recharacterizing as salary the entire amount of the disputed payment, whereas the employer had looked upon it merely as a simple gratuity. According to these authors, the principle according to which a gratuity must remain incidental compared to the salary ought to have been respected by only reclassifying part of the bonus as salary, such that the remaining part of the bonus might then appear to be an accessory to the increased salary. This would have made it possible in particular to take into account the purpose of the discretionary element (motivation and encouragement for the future) and the economic position of the parties. Such a solution would take into account the contractual freedom of the parties, and would set a maximum limit on the discretionary part of the payment, which should never be higher than the amount of the salary. This method, which consists of only intervening in contractual freedom insofar as may be necessary in order to re-establish admissible proportions, but no more than that, has been followed by cantonal courts.

Numerous authors have moreover questioned whether intrusion into contractual freedom was justified to the advantage of a trader who was already particularly well-paid. It seemed to them misplaced that a principle of social protection should be applied in such a radical manner in favour of the most favoured people in our society. These authors explained that for people receiving high salaries, contractual freedom should prevail, and that a gratuity should legitimately be permitted to even exceed the fixed salary. For such incomes, there could no longer be any justification for protecting the gratuity, given that the basic salary itself represented adequate and sufficient compensation for an employee's services.

3.2 Decision of the Swiss Supreme Court of 26 February 2013

On 26 February 2013, the Swiss Supreme Court rendered a landmark decision regarding the application of the criterion of the incidental nature of bonus payments made to employees benefiting from high salaries (judgment 4A_520/2012).

The Swiss Supreme Court was called upon to consider the case of a bank employee receiving bonuses since the beginning of the employment relationship in 1996. According to a communication sent to him at the beginning of 2006, the employee was supposed to receive for his activity in 2005 a salary set at CHF 207,550 and a "Performance Incentive Bonus" of CHF 3,100,000, divided into two parts: a first part in cash (CHF 1,807,744) and a second part, deferred and payable after five years (CHF 1,292,256). After receiving this communication, the employee resigned on 8 February 2006. The employer paid the employee his fixed salary and the first part of the "Performance Incentive Bonus" in cash, that is to say a total of CHF 2,015,294 (CHF 207,550 + CHF 1,807,774). The employer then informed the employee that the deferred part of the bonus would not be paid, that part of the bonus not being due where the employment relationship had been terminated prior to the expiry of the period specified for the acquisition of the entitlement to that amount (vesting period). The employee then took legal action claiming payment of the deferred element of his bonus. Among other arguments, the employee explained that the bonus could not be considered as incidental compared to the fixed salary and should therefore be characterized as a component of his salary.

The Swiss Supreme Court has ruled that the principle according to which a gratuity should remain incidental compared to the salary in order to preserve the special nature of a bonus payment was based on the idea that an employer should not be allowed to use gratuities (voluntary nature) in order to define an employee's salary per se. Since the salary represents a necessary and essential element in the employment relationship, it would in fact be inadmissible for the employee's main remuneration to take the form of a gratuity dependent on the employer's good will and subjective assessment. However, once the salary strictly speaking reaches an amount, which more than adequately ensures the employee's economic survival (for example, when it considerably exceeds the cost of living), the amount of the gratuity compared to the salary can no longer legitimately serve as a criterion for determining whether a bonus should be characterized as salary. When the salary is more than adequate to maintain an appropriate life-style for an employee and also represents a multiple of average salary, there can no longer be any justification for placing the need to protect the employee above the parties' contractual freedom. In such circumstances, there is no justification for recharacterizing a special bonus payment as salary.

In the case in question, the Swiss Supreme Court found that, given that the employee's salary for 2005 had amounted to CHF 2,015,294, he had benefited from an income far in excess of his needs in order to ensure his subsistence. In such circumstances, the ratio between the amount of the bonus and that of his salary could no longer be considered a determining factor and the criterion relating to the incidental nature of the bonus was irrelevant.

The 26 February 2013 judgment is an important decision because it clarifies the legal framework of bonuses. To begin with, the decision is of an exceptional nature, in the sense that the Swiss Supreme Court rarely admits differentiated application of the rules of employment law based on the type of employee concerned.

The criterion for distinguishing between low salaries, for which the principle governing the incidental nature of bonus payments remains relevant, and high salaries, to which that principle no longer applies, will nonetheless need to be further clarified by subsequent case law.

4 CONCLUSIONS

Changes in recent case law in matters of entitlement to bonuses are to be welcome insofar as they reflect greater respect for the principle of contractual freedom, which is fundamental to our rule of law.

However, numerous points still need to be clarified in matters of bonus classification. Employers need to be particularly careful before introducing variable payment systems.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.