What do we mean by a discretionary pay system?
Discretionary pay systems link the pay of an employee to some measure of individual, group or organisational level performance. They include, for example:
- Performance related pay
- Merit pay
- Discretionary bonus schemes
Why would an organisation introduce a discretionary element into its pay system?
Many organisations, particularly in the private sector, but also across civil service departments and some other parts of the public sector, choose to have a discretionary element in their pay systems with a view to incentivising, improving and rewarding performance.
What does the law say about discretionary pay systems?
It is valid to operate a discretionary pay system provided it does not result in sex discrimination.
The European Court of Justice has said that there is every reason to expect the performance of women to be as high as the performance of men. The pay system should therefore, all things being equal, deliver equivalent performance payments to women and men across a group, although obviously an individual woman might perform less well and therefore receive less performance related pay than an individual man. If men are consistently better rewarded than women, this would suggest the discretionary pay system is discriminatory.
In Hartlepool Borough Council & Another v Dolphin & Others UK (EAT/0007/08) the male comparators, who included refuse workers, road sweepers, gardeners, joiners, labourers/drivers, and painters, had benefited from a variety of incentive schemes since the 1970s. None of the female claimants, who were employed by the council as care assistants, office cleaners, school escorts and school kitchen assistants had access to such schemes. The tribunal could see no reason why similar schemes could not be applied to the claimant work groups and upheld the women’s claims. The council’s appeal to the Employment Appeal Tribunal was rejected.
In Barker and others v Birmingham City Council (ET 1305819/2006) nearly 5,000 women workers at the council, mainly employed as cooks, cleaners and care assistants, took the local authority to an employment tribunal after they discovered their male counterparts were earning significantly more money for work at the same grade. They successfully argued that women were unlawfully excluded from bonuses worth up to 160 per cent of basic salaries.
What are the risks?
The risks are that challenges will occur in relation to:
- The design of discretionary pay systems
- The way in which discretionary pay systems are implemented
- The way in which performance and merit is assessed
- Access to such pay schemes or particular elements of the pay schemes eg bonus payments.
Your organisation will be particularly vulnerable where men and women are doing equal work and:
- Female groups are excluded from pay schemes or from specific payments that male groups have access to.
- The schemes that female groups have access to are designed or implemented in such a way that they are not as favourable as the schemes male groups have access to.
- Women earn on average less than men in the same scheme.
- There has been no proper monitoring and recording of the performance on which incentive payments are based.
- The discretionary payments to male workers are disproportionately high.
The risks are increased where discretionary payments are consolidated into basic pay, rather than being paid as non-consolidated lump sums because any unjustifiable inequalities are perpetuated indefinitely, and compounded by percentage pay increases.
Assessment of performance and merit can be highly subjective and there is always the risk of bias creeping in. If the bias is a bias against women (or more rarely, against men), or the particular type of work they do, then there is a risk of an equal pay claim.
How do you identify the risks?
Take the following steps where men and women undertake equal work:
Step 1: Compare access to each form of discretionary pay by gender. If male groups have access to schemes that female groups are excluded from (or vice versa) the risk of challenge, where men and women are doing equal work, will be high unless their exclusion can be justified.
Step 2: Compare schemes (eg bonus schemes) that apply to different groups of staff. If schemes applied to predominately female groups are not as beneficial as schemes applied to predominantly male groups (or vice versa) the risk of challenge will be high unless the use of different systems can be justified.
Step 3: Where payment is based on performance assessments, compare the distribution of performance awards by gender for a convenient period (e.g. the last financial year). If the distribution of performance awards is not broadly proportionate between men and women the risk of challenge will be high. If there has been no proper monitoring and recording of performance, the risk of challenge will also be high.
Step 4: Compare the average payments received by men and women in the same scheme for a convenient period, say one year. If this reveals significant (i.e. 5% or more) gender related differences in average payments, the risk of challenge will be high.
How do you reduce or eliminate the risks?
Review the design, implementation, impact and access to discretionary pay systems to ensure they do not give rise to challenge from groups undertaking equal work.
Design – audit the performance criteria/objectives/targets of each scheme to ensure they are not discriminatory. Are they equally achievable in jobs typically done by women and men? Do they avoid any criteria that could be indirectly discriminatory, for example, those related to attendance or flexibility in hours of work, or the way productivity is measured? Ensure the performance criteria/objectives/targets do not place part-timers at a particular disadvantage compared to full timers. Also audit the apparent justification for discretionary payments – if payments are meant to be self-financing can you demonstrate that this is in fact the case; if payments are meant to reflect market forces does the evidence support this?
Implementation – where managerial discretion applies, ensure there are clear guidelines on the exercise of discretion; the more objective the criteria, the lower the risk.
Access – if any predominantly female groups are excluded from discretionary pay systems ensure their exclusion can be justified. If different schemes apply to employees undertaking equal work, ensure they benefit from them equally unless the use of different systems can be justified.
Impact – monitor and review the distribution of performance or merit assessments and discretionary payments for gender bias on a regular basis (e.g. annually) within and between schemes. If the results reveal significant gender differences, investigate the causes further. For example, are managers’ assessments consistent with each other and in respect of their treatment of women as compared to men and part-timers as compared to full timers?
Record keeping - check that you have accurate contemporary performance records.
Training - consider refresher training for managers operating such schemes so as to ensure they are operated consistently; include training on equalities issues and on the avoidance of bias and stereotyping. Ensure managers are aware of the risks of undervaluing the contribution of part-timers.
Transparency - ensure details of the schemes and how they operate are published to all staff and that each employee receives information about her or his individual performance ratings and how they convert into pay.
Payment - consider converting consolidated discretionary payments into annual lump sums.
A large organisation in the finance sector operated a performance related payment system for its higher graded staff. Staff were appraised by their line managers annually against a pre-determined set of performance criteria, performance payments being dependent upon each individual’s assessment rating.
An equal pay audit revealed that average payments to men were significantly (i.e. more than 5%) greater than average payments to women. Further analysis revealed that the problem stemmed from two particular departments.
The organisation responded by undertaking an independent review of the previous year’s assessments in these particular departments, revising its guidelines on the exercise of discretion over performance appraisal, arranging for line managers to attend a training course on the operation of the scheme, and putting in place a system for monitoring the exercise of managerial discretion. A review of the following year’s assessments revealed that there was less than a 3% difference in the average payments to men and women.