Where is a bonus not a bonus? In South Korea

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Back in the early 1980s when I started working in the South Korean securities industry, I well recall a manager in the admin department of the brokerage explaining to me how its “bonus compensation system” worked.

I was all ears, expecting to hear great things about how, by dint of hard work and success in leading the (Korean) company’s nascent international department, I could top up my salary with a big, fat bonus.

My hopes were dashed. The bonus system was not really about bonuses. The company’s bonus payment was set at 400%, which sounded all right. But that was for everyone, he explained. Every three months an additional amount, equal to my regular monthly salary, would be paid.  In essence: Over the course of the next 12 months I would receive 16 months of salary payments.

It seemed odd to me then. It still does today.

However, it was the system in use at most South Korean companies, and at most foreign companies in Korea, too – at least insofar as local Korean staff were concerned.

This system is native to South Korea. It was considered a useful thing from a tax perspective, since the employee’s income taxes could be set according to the amount of the standard salary, rather than the total standard salary plus bonus income.

“It was initially established to lower the tax burden on the employee and the employer and as a method to force employees to save more money by forcing them to live on a lesser regular monthly income during most months,” said Steve McKinney, head of Seoul-based search firm McKinney Consulting.

Encouraging Koreans to put savings into bank accounts was one of the government’s prime policies during the decades of industrial development from the 1960s.

Most Korean firms, even those under the great chaebol conglomerates like Samsung, LG Electronics and Hyundai Motors, used the standard bonus system. Of course, if a company had a particularly good and profitable business year, at the end of its fiscal year it could pay a “special bonus” in addition to the standard bonus payments.

One colleague at the brokerage was eagerly anticipating his “special” bonus when our brokerage firm had a particularly profitable year in the mid-1980s. Like so many male Korean employees, he dutifully took his pay packet home every month and handed it over to his wife, who kept most of it for family savings and expenses, and gave him a monthly allowance. But the wife only knew about the regular salary and bonus payments, not the special bonus payment. So, as he told me, “That will be my spending money and she will never know, so you and I can go out and enjoy a night of drinks on me!”

A colleague’s wife only knew about his regular salary and bonus payments, not the special bonus payment. So, as he told me, ‘That will be my spending money and she will never know, so you and I can go out and enjoy a night of drinks on me!’

He was far from the only Korean who withheld knowledge of special bonuses from his wife. Alas, the uneven nature of the regular bonus payments sometimes caused cash-flow headaches.

As Martin Watts, a longtime financial-sector executive in South Korea, explains, “The Korean bonus system is quirky. It makes monthly cash-flow planning more awkward. Certainly, in the minds of Korean staff, it is money which they expect, and companies would be sensible to treat it that way for staff morale, if nothing else.”

In recent years, a number of court cases have revolved around the treatment of bonus payments in terms of wage and salary benefits. The practice at most companies, for instance, was to exclude all or most bonuses when reckoning an employee’s retirement payment amounts, and simply to base the retirement allowances on the regular monthly payments.

In a case brought by Korean unionized workers at Kia Motors, the No 2 automaker in the country and a Hyundai Motor Group affiliate, a judge ruled last August that bonus payments and lunch allowances that had been routinely paid to Kia’s workers had to be taken into account in reckoning the salary benefits due to the workers. Hence the company owed its workers an additional sum of 422.3 billion won (US$375.5 million) as compensation. (Incidentally: The workers had demanded three times as much.) Kia has appealed the verdict.

It is certain, however, that the old ways of treating a bonus that is paid on a routine basis as exceptional income and not part of the regular salary are gone. A new, more global-standard system has appeared.

As William Kim, a lawyer in the labor practice of the major Korean law firm Lee & Ko explains: “Companies generally structure their bonus systems as discretionary payments that depend on the company’s performance and at times even the relevant employee’s performance.  And in so doing, the bonus payments may not be included when computing an employee’s statutory allowances and severance.”

 The introduction of incentivized bonuses that are not routine, regular payments, but reward an individual’s value-add, has not been without controversy in South Korea. The complication is that most companies have retained traditional systems where salaries are based on seniority.  When bonus payments are based on achievement, junior employees might be paid more than their bosses. Hence – problems.

“The bonus system has not been applied at many Korean companies in a completely transparent manner … many times, junior employees have complained that senior employees have awarded themselves higher bonus payments, even though the sales or other achievements were done primarily by junior employees,” said Dave Yoon, a senior consultant at IRC Consultant in Seoul.

The introduction of incentive bonuses has “not completely eliminated the old practices of providing more salary and benefits based upon the length of service an employee has given to the company,” Yoon added.

Under the new system, a bonus can be excluded from severance calculations. Under the old-style Korean system, it ought to be figured into the amount of severance that the employee would be due upon leaving the company. Foreign companies that operate in Korea traditionally paid bonuses under the old system, but in recent years, many have changed.

As McKinney points out, “Korean laws have changed, and bonuses which are routine, regular payments are not treated as regular wages and are taxed according.”

Given recent court rulings in favor of employees seeking additional compensation for improperly calculated retirement payments, it seems likely that most Korean and foreign companies in the country will not wait for the appeal to play out, but rather will adjust their bonus systems to more international global-style payments that represent unique, non-standardized payments.

That may mean even more opportunities for male Korean employees to hide bonus payments from their wives, since the timing and the amounts of these bonus payments will no longer be entirely predictable.

My old friend from years ago, and his modern-day colleagues, may be pleased about that, at least.

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