In today's competitive job market, employee retention is a crucial factor in the success of any organization. Retaining top talent can save companies significant resources that would otherwise be spent on recruitment, training, and productivity loss due to turnover.
One approach to retaining employees is offering retention bonuses, which incentivize employees to stay with an organization for a predetermined period. The retention bonus has its place and can be a powerful tool when used correctly, but with the advantages comes disadvantages as well.
In this article, you’ll discover:
What is a retention bonus?
Does everyone get a retention bonus?
Pros of a retention bonus
Cons of a retention bonus
Should I negotiate a retention bonus?
How are retention bonuses paid out?
Do I have to pay back the company if I leave after taking the retention bonus?
How much are retention bonuses taxed?
How do I avoid tax on a retention bonus?
How do you respond to a retention bonus?
What is a retention bonus?
A retention bonus is an added monetary incentive provided to employees as an encouragement to remain with an organization for a predefined duration, sometimes with specific requirements, terms, and conditions for payment.
The sole purpose of a retention bonus is to maintain employee retention and decrease employee turnover by keeping key employees from quitting in particularly competitive fields or during labor shortages.
Whether you accept a retention bonus will depend on several factors, including your current job satisfaction, the amount of the bonus offered to you, the terms of the bonus, and your personal goals and priorities. You may view the offer of a retention bonus as a significant incentive to stay with your current employer. The flip side is that you may see a retention bonus as a temporary fix that does not address your underlying issues with your job or employer.
According to USAFacts, “The quit rate, which measures the number of jobs quit as a percentage of total employment, reached 2.8% in April 2021, the highest since the Bureau of Labor Statistics (BLS) began collecting data in 2001. This record high quit rate occurred while the employment rate was 6.1%, still 2.6 percentage points above pre-pandemic levels.”
Does everyone get a retention bonus?
The short answer is no, not everyone will receive a retention bonus. Retention bonuses are usually reserved for key employees with special skills and expertise whose departure would cause major pain points for the organization. This is typically executives, specialist/subject matter experts (SMEs), and high-performing employees.
Another factor in determining who will receive a retention bonus is the current labor market conditions. Organizations will analyze the labor market to determine their position and how fast they will be able to replace a key member if lost to another company poaching their employees.
Lastly, a retention bonus is dependent on the financial health of the organization. Retention bonuses should be made on a case-by-case basis to be financially responsible.
Pros of a bonus
There are many benefits to a retention bonus for both the employee and the employer. The retention bonus may entice a high-performing employee to remain with the company for a specified period of time, and it can be a valuable tool if used the correct way.
Here are some additional advantages to using retention bonuses.
Incentivized employees remain with the company and reduce turnover.
The company recognizes and appreciates employee contributions, leading to increased productivity.
It makes the company more competitive and attractive to top talent.
A retention bonus can be a more cost-effective solution than recruiting and training new employees.
It can work well as a temporary solution to mitigate the impact and disruption of business until a long-range plan can be developed and implemented.
Cons of a bonus
Just as there are many benefits to using a retention bonus, it also has its drawbacks for both the employee and the employer. It should be used sensibly and not handed out simply to keep employees from leaving the company.
Here are some cons to retention bonuses.
It can be a short-term band-aid to a much larger problem on why the employee wants to leave.
In some cases it may create resentment among other employees and negatively impact morale.
It does not create true loyalty – the employee may still leave at the end of the specified time.
Technically, employers are paying a retention bonus on top of the employee’s salary to do their job.
Retention bonuses can be difficult to administer.
When finding ways to retain top talent, money is not always the answer. According to Gallup.com, the best predictors of attracting and retaining top talent are:
Overall job satisfaction
Organizational commitment
Work environment
Level of stress
Workgroup cohesion
In short, rather than simply increasing pay in an attempt to retain talent, leaders should focus on addressing all aspects of the employee experience and find ways to show employees that they are valued and appreciated.
This can be done by enhancing the company culture, increasing employee recognition and rewards, and providing better work-life balance. Making those adjustments can save money and increase employee retention rates as well as or better than a retention bonus.
Should I negotiate a retention bonus?
According to Investopedia, yes, you should negotiate your retention bonus as well as clarify terms and agreements. These can include being comfortable with the date of payment and being clear on the expectations during the retention bonus period.
While yes, you can negotiate your retention bonus, there are some factors to keep in mind when negotiating.
If you are offered a retention bonus, then you are a valuable member of the organization. With that said, you will want to negotiate a bonus that reflects your contribution to the organization.
Before you begin negotiating, carefully review the terms and conditions of the retention bonus and be sure that you understand it so as not to open yourself up to any later surprises or legal challenges.
Assess the financial position of the organization. If the company is having financial struggles, be prepared for the fact that the company may not be in a position to negotiate.
No matter what, always remain professional during the negotiations.
Not all retention bonuses are negotiable.
If you do have the opportunity to negotiate, know there are other types of incentives that are available to you: cash rewards, stock options, or other forms of compensation based on equity.
How are retention bonuses paid out?
How retention bonuses are paid out will be determined by each organization. Employees may be required to meet specific performance targets or remain with the company for a minimum period.
Retention bonuses may be paid out in a lump sum at the end of the retention period.
The retention bonus may be paid out in installments over the retention period.
Retention bonuses may be paid out in the form of equity, such as stock options.
It is important for the employee to review the terms and conditions of the retention bonus to know and meet the required expectations and understand how the bonus will be paid out.
Do I have to pay back the company if I leave after taking the bonus?
As you have noticed, one of the recurring themes throughout this article is to be sure to read and understand the terms and conditions of the retention bonus. Whether or not you will have to pay back the company if you leave after accepting the retention bonus will depend heavily on the specific terms and conditions.
Remember, the sole purpose of the retention bonus is to maintain employees and decrease employee turnover by keeping key employees from quitting. This incentive to remain with the company may specify a certain period that the employee must remain with the company ranging from a few months to a few years. However, if you decide to leave the company before the agreed-upon time frame, then yes, you may be required to repay the company.
There may be extenuating circumstances that may prevent you from having to pay back the retention bonus, such as a layoff, medical emergency, or a major family event. Before making a decision, it may be best to meet with your company's Human Resources department or a legal professional.
How much are retention bonuses taxed?
Here is something you may not know: A retention bonus will be taxed as income, just like your paycheck. This means that your retention bonus is subject to federal, state, and local income taxes as well as Social Security and Medicare taxes.
How much tax depends on the amount of the bonus, your tax bracket, individual state and local tax percentages, and other tax-related factors. The one constant is federal taxes – employers are required to withhold federal income tax at a flat rate of 22% (as of 2023).
Be sure to consult with a certified tax professional to prevent any tax-related issues.
How do I avoid tax on a retention bonus?
To stay above board, we should never talk about “avoiding taxes.” But there are ways to help reduce the taxes you will pay on your retention bonus.
A bonus strategy by SmartAsset.com states, “One of the most effective ways to reduce taxes on a bonus is to reduce your gross income with a contribution to a tax-deferred retirement account. This could be either a 401(k) or an individual retirement account (IRA). The amount you donate to the retirement account, subject to limitations, reduces your taxable income so you’ll owe less.”
How do you respond to a retention bonus?
How you respond to the offer of a retention bonus is important.
Ask for time to consider the offer.
Alert the person who made the offer when exactly you will notify them of your decision.
Review the offer and be sure to understand what is being offered, when you will receive what’s in the offer, the expectation that comes with accepting the offer, and any penalties that may come if you break the terms and conditions of the retention bonus.
Copyable Examples
Regardless of how you choose to respond to a bonus offer, it should always be done in writing. Below are three copyable examples of letters that can be used to accept a retention bonus, to reject it, or to negotiate for different terms.
Example Retention Bonus Acceptance Letter
Dear [Manager’s Name],
Thank you for offering me a retention bonus to remain with the company. I am honored and grateful to receive this bonus and appreciate the recognition of my contributions to the organization.
After careful consideration, I have decided to accept the retention bonus of [State the Amount] and remain with [Company Name] for [Specify Time Period]. I am committed to working hard and to the ongoing development of my skills so I can continue to contribute to the success of the company.
Please let me know if there are any additional steps I need to take to accept the retention bonus, and thank you again for this opportunity.
Sincerely, [Your Name] |
Example Retention Bonus Decline Letter*
Dear [Manager’s Name],
I appreciate the opportunity you have provided me with the offer of a retention bonus. The recognition of my contributions to [Company Name] means a lot to me, and I am grateful.
However, after careful consideration, I have decided to decline the retention bonus and pursue other opportunities. Although I value my time at [Company Name] and appreciate the opportunities it has provided me, I have decided to explore other career paths that better align with my personal and professional goals.
I want to express my gratitude for the support and opportunities that you and [Company Name] have provided me during my tenure. I have enjoyed working with my colleagues and have learned a great deal from my experiences here.
Please let me know if you have any further questions.
Thank you again for the offer and for your understanding of my decision.
Sincerely, [Your Name] *Follow this up with an official resignation letter. |
COPYABLE EXAMPLE: Retention Bonus Negotiation Letter
Dear [Manager’s Name],
I appreciate the offer of a retention bonus, and I am grateful for the recognition of my contributions to [Company Name]. However, I would like to discuss the possibility of negotiating the terms of the bonus.
While I value my position within the company, I have been approached with other opportunities that may better align with my personal and professional goals. I am open to staying with the company, but I would like to revisit our conversation on [area of negotiation: i.e., compensation amount, duration of time, or terms of retention bonus].
I would appreciate the opportunity to discuss this further and work with you to come up with a mutually beneficial solution. I am committed to the success of the company and believe that this negotiation could lead to a positive outcome for both parties.
Thank you for your time and consideration. I look forward to hearing back from you.
Sincerely, [Your Name] |
Key takeaways
The retention bonus has its place and can be a powerful tool when used correctly, but with the advantages come disadvantages as well.
A retention bonus is an added monetary incentive provided to employees as an encouragement to remain with an organization for a predefined duration, reducing employee turnover, eliminating rehiring costs, and easing company retention issues.
It’s critical to review the terms and conditions of the retention bonus to know and meet the required expectations and understand how the bonus will be paid out.
Unless there are extenuating circumstances, you will have to pay the bonus back if you accept it and then choose to leave the company.
Retention bonuses are taxed. Consult with a tax professional to determine how that will impact you.
An employee can choose to accept a retention bonus, decline it, or negotiate for different terms. Whatever the choice, it should always be communicated in writing.
