South Korean Supreme Court Rules On Performance Bonuses

If compensation is classified as ‘wages' under the Labor Standards Act, it must be included in the employee's ‘average wage'. The ‘average wage' serves as the basis for calculating severance pay, retirement pension benefits, overtime, and other statutory entitlements. 

Korean employers commonly pay a significant portion of employees' compensation through bonuses (including performance bonuses). Many employers that pay variable compensation based on business-performance metrics have excluded that compensation from employees' average wage, essentially on the basis that it is profit sharingrather than compensation for work and therefore should be excluded from employees' average wage.

The Supreme Court's rulings

In the first decision, the Supreme Court ruled that between the two kinds of management performance bonuses (incentives) paid by an affiliate of a major Korean conglomerate, one constituted ‘wages' under the Labor Standards Act and one did not. This ruling overturned the lower court's decision, which had held that neither of these management performance bonuses constituted wages.

The company's Overall Performance Incentive (OPI) was a system where a certain percentage of the Economic Value Added (EVA) of each business division is distributed. The Court determined that the occurrence and scale of EVA were not closely related to the provision of labour, as they were influenced more heavily by external factors beyond the employees' control. Thus, it was deemed an ‘ex post facto distribution of management outcomes.' Even if the company had an obligation to pay OPI based on employment rules, it was found not to be wages.

In contrast, the company's Target Achievement Incentive (TAI) was paid based on evaluations. The Court noted that not only were the payment conditions and standards set by the employment rules, but the scale of payment was somewhat fixed in advance. Employees could also directly influence or control the achievement of relevant targets through their work. Consequently, the Court found a high causal relationship with the provision of labour and a direct/close link between the labour provided and the company's obligation to pay. In short, the TAI was held to be an ‘ex post facto settlement for labour performance' rather than a distribution from management outcomes. The TAI was thus found to be ‘wages' within the meaning of the statute.

On the same day, the Supreme Court ruled that ‘Special Performance Bonuses' at another company did not constitute wages. In that case, the company and the labour union set payment standards through annual labour management agreements, and the bonuses had been paid for a long time based on whether those standards were met. The Supreme Court ruled these were not wages, stating that the company did not have a mandatory obligation to pay them every year based on labour-management practices. Instead, these payments were characterised as distributing profits based on the specific management outcome of ‘realising net profit', where factors other than the employees' labour had significant influence.

Takeaway for employers

The Supreme Court reinforced and clarified its legal doctrine (first announced in a December 2024 decision) that for a payment to be ‘wages' under the Labor Standards Act:

• a payment obligation must be recognised via collective or individual agreement, employment rules, or labour practices; and

• this obligation must be directly or closely related to the provision of labour.

Note that other Supreme Court rulings on similar issues are scheduled for later this month, which may provide more specific criteria for determining whether incentives count toward average wages.