An employer’s guide to retention bonuses

Retention bonuses can help employers reduce employee turnover, drive productivity, and foster long-term company loyalty.

The cost of losing employees goes far beyond just the price of hiring replacements.

When employees leave, they take valuable institutional knowledge and client relationships with them. According to Gallup, the true cost of replacing an employee can be up to twice their annual salary.

One employee's departure can stall projects, slow production, and even delay product launches. 

Plus, there's the ripple effect on morale. When a top performer leaves, it can trigger a domino effect, leading other team members to start their own job searches.

A retention bonus can help you avoid the upfront and downstream costs of losing a valued employee.     

But what exactly is a retention bonus, how does it work, and why should your company consider offering one? Let's dive in.

What are retention bonuses?

A retention bonus is a one-time financial incentive offered to an employee to encourage them to stay with a company for a specified period. 

Unlike regular bonuses tied to performance metrics, retention bonuses are designed to retain valuable employees during critical periods or prevent them from being lured away by competitors.

Retention bonuses are usually offered as a lump sum payment. They're separate from an employee's regular compensation and are considered supplemental wages by the IRS.

How do employee retention bonuses work?

When an employer offers a retention bonus, they'll typically present the employee with a formal agreement outlining the terms. This agreement will specify:

• The bonus amount

• The retention period (how long the employee must stay to receive the bonus)

• Any specific performance expectations or goals

• Payment terms (e.g., lump sum or installments)

• Tax implications

If the employee fulfills the terms by staying with the company for the specified period and meeting any outlined goals, they receive the bonus. If they leave before the retention period ends, they forfeit the bonus.

Why are retention bonuses important?

Let’s say a company has 750 employees and a turnover rate of 15%. Between recruiting costs and training time, they’re losing $3000 per departure on average.

That adds up to more than $330K in annual turnover costs — before accounting for downstream effects on productivity and company culture. That’s why retention bonuses are often worth the upfront cost. 

Retention bonuses help your company:

• Keep key talent during critical periods: Whether it's a merger, acquisition, or crucial project, retention bonuses ensure that essential employees stay on board when you need them most.

• Prevent employee turnover: In competitive industries, retention bonuses can be a powerful deterrent against employee poaching by rivals.

• Maintain stability and continuity: By keeping experienced employees in place, companies can maintain smoother operations and preserve institutional knowledge.

• Boost morale and loyalty: Offering a retention bonus shows employees that you value their contributions and want them to stick around.

• Save money: While the upfront cost might be high, retention bonuses can be more economical than the expenses associated with recruiting, hiring, and training new employees.

How to design, launch, and implement a retention bonus program

Setting up a retention bonus program doesn't have to be complicated. Follow these steps to create a program that keeps your top talent engaged and your business running smoothly — without administrative headaches.

Determine eligibility

Start by identifying which employees are critical to your business operations or upcoming projects. Don't just focus on executives. Look at all of your key players with specialized knowledge or skills that would be hard to replace quickly.

Look beyond job titles and weigh factors like institutional knowledge, client relationships, and technical expertise. Consider ranking employees based on their business impact and the challenge of replacing their skills. This approach ensures you're targeting retention efforts where they'll be most effective and valuable to your organization.

Decide on a bonus structure

Choose between a percentage of salary or a flat amount. Consider offering tiered bonuses based on employee level or role importance. The bonus should be significant enough to incentivize the employee to stay, without breaking the bank.

You could also spread out the bonus in installments to incentivize long-term retention. For example, you might offer 50% of the bonus after six months and the remaining 50% after a year. This way, you can protect your company’s investment in case the employee leaves midway through the retention period.

Create the employee retention bonus agreement

Draft a clear, concise agreement that outlines the bonus amount, retention period, any performance expectations, and payment terms.

Include specific language about what happens if the employee voluntarily leaves or is terminated before the retention period ends. Be sure to clearly define any conditions under which the bonus might be partially or fully forfeited. 

Communicate the retention bonus details to involved employees

Be transparent about why you're offering the bonus and what you expect in return. Highlight the value you place on the employee's contributions and your desire for them to be part of the company's future.

Schedule one-on-one meetings to discuss the retention bonus in person and reinforce the employee's importance to your company. Follow up with written documentation for their records and future reference.

Monitor effectiveness over time

Keep track of retention rates among bonus recipients. Are they staying beyond the retention period? Are they more engaged? Use this data to refine your program for future use.

Conduct periodic check-ins with bonus recipients. Gauge their job satisfaction and engagement levels to identify and address any issues before they lead to turnover. You should also compare the cost of your retention bonus program against the potential costs of turnover to ensure it remains cost-effective.

Who is eligible for retention bonuses?

While retention bonuses are commonly offered to executives and highly skilled employees who would be difficult to replace, they can be used to retain all types of workers at any level, like:

• Software engineers with specialized knowledge of a company's proprietary systems

• Sales representatives with strong client relationships

• Project managers overseeing a critical, long-term initiative

• Retail store managers and associates with a proven track record of driving sales

In today’s climate, retention bonuses are no longer reserved for C-level execs and senior management. 

According to a Mercer study on M&A retention, companies are offering retention bonuses to 35% of workers who are not necessarily critical for integration. The bottom line: Retention bonuses are often more cost-effective than hiring, onboarding, and training new employees.  

Remember, even a modest retention bonus could go a long way in keeping valuable employees across all levels of your organization. A small bonus might be just the incentive needed to retain a talented retail employee or customer service representative.

How much should a retention bonus be?

Retention bonuses typically range from 10% to 25% of an employee's annual salary. But the size of a retention bonus can vary widely depending on factors like the employee's role, the length of the retention period, and the company's financial situation. 

For example:

• A senior executive earning $200,000 could be offered a bonus of $20,000 to $50,000.

• An employee earning $50,000 annually might receive a retention bonus of $5,000 to $12,500.

• A sales associate earning $22 per hour (~$46,000 annually) might consider a retention bonus of around $1,000 to stay through the holiday season.

It's important to note that there's no hard and fast rule for retention bonus amounts. The key is to offer an amount significant enough to motivate the employee to stay, while still being financially feasible for your company.

Legal and tax implications of giving retention bonuses

Retention bonuses aren't just another paycheck – they come with specific legal and tax considerations, similar to incentive payouts. The IRS views them as supplemental wages, so employers must withhold taxes.

For employees, retention bonuses are typically subject to a flat 22% federal withholding rate. That rate increases to 37% for retention bonuses over $1 million.

The same applies for gift cards. The IRS considers gift cards as taxable income, so the tax implications are the same whether it’s a $1,000 monetary bonus or a $1,000 Amazon gift card. 

Make sure you're clear on the tax implications for both your company and your employees.

From a legal standpoint, it's crucial to have a well-drafted agreement that clearly states the terms of the bonus, including any clawback provisions if an employee leaves before the agreed-upon date. Always consult with your legal and tax advisors to ensure you're compliant with all applicable laws and regulations.

Keep retention high with Tremendous

Deciding whether to offer a retention bonus — and how much to offer — requires careful thought and consideration. Sending it should be simple and hassle-free.

Tremendous makes it easy to deploy retention bonuses. And your employees will appreciate the flexibility to choose from over 2,000 great redemption options, from monetary transfers to gift cards. With rewards to cover in more than 200 countries, it’s just as easy to send retention bonuses to distributed employees.    

Tracking is easy too, whether you send one retention bonus or dozens. Tremendous integrates smoothly with your existing HR systems and automatically exports the data to reconcile with payroll.

Now, you can streamline the process of distributing retention bonuses and focus on what really matters: keeping your most valuable employees engaged and committed to your company.

Want to make retention bonuses a breeze? Take a demo or sign up for Tremendous today to send your first bonus in minutes.

FAQs on employee retention bonuses

What is a typical employee retention bonus?

A typical retention bonus ranges from 10% to 25% of an employee's annual salary. However, the exact amount can vary widely based on the employee's role, the company's financial situation, and the length of the retention period.

What are the restrictions on retention bonuses?

Retention bonuses usually come with a time-based restriction — the employee must stay with the company for a specified period to receive the bonus. Some agreements may also include performance goals or clawback provisions if the employee leaves before the agreed-upon date.

When should you offer retention bonuses?

Retention bonuses are typically offered during periods of significant change or uncertainty, such as mergers, acquisitions, or major projects. They can also be used to retain key employees in highly competitive job markets or when a company is going through financial difficulties.