Variable pay is becoming a common component of many organizations’ compensation plans. In fact, a study by Salary.com showed that nearly 77% of US businesses utilize variable pay in their compensation plans. This is because many businesses are finding that variable compensation is an effective way to keep their pay competitive. On top of that, variable compensation plans also help companies incentivize employees to perform well, attract top talent, and above anything else, ensure that their employees are happy, therefore, reducing turnover.
In this article, we’ll define variable compensation, discuss the common types of variable pay, the advantages of implementing a variable compensation plan, and provide tips for how to structure an effective variable compensation plan.
What is Variable Compensation?
Variable compensation is wages or compensation outside of an employee’s normal salary. Unlike fixed salaries, which remain consistent and static, variable compensation is usually awarded to employees as a financial incentive for meeting predetermined performance metrics or key performance indicators (KPIs). Since variable pay is completely tied to the overall performance of an employee, it provides an opportunity for employees to be in control of their income as they are able to unlock additional earnings by achieving specific milestones.
Common Variable Compensation Structures
Variable pay can come in many forms, but below are the most common forms of variable pay that organizations include in their compensation plans.
Bonuses: Often paid on a quarterly or annual basis, bonuses are a form of compensation that is tied to individual, team, or company performance goals. Bonuses are typically a set amount that is predetermined depending on the goal and are often paid to both sales and non-sales staff.
Commission: Commissions on the other hand are usually only reserved for sales teams because this form of compensation is specifically linked to the revenue generated from a sale. Unlike bonuses which are a set amount, commission payments are calculated based on a percentage of the revenue or profit achieved from the sale. Commission payments are also not necessarily tied to a specific goal, instead they are ongoing compensation for sales reps each time they make a sale.
Profit Sharing: Employers can also provide compensation in the form of profit-sharing. This component of a compensation structure is when an organization deposits a percentage of the company’s profits into a profit-sharing retirement account for an individual employee. The employer’s contribution amounts for this account are based on the employee’s quarterly or annual earnings. This provides employees with long-term gains, as employees will not actually be able to withdraw from the account until they reach retirement, in which time their account will have continued to grow.
Stock Options and Equity: Companies may also offer employees the opportunity to purchase company stocks at a discounted price. These programs give an employee the right to buy the company’s stock at a specified price for a finite period of time. This form of variable pay is similar to profit sharing in the sense that it provides employees with long-term investment opportunities based on the overall performance of the company.
Benefits of Incorporating Variable Compensation into Your Compensation Plan
Variable compensation can be a desirable component of a compensation package that helps both attract and retain top talent as well as enhance your employees performance.
Incentivizing Employee Performance: Variable pay can act as a powerful tool toward motivating your staff to meet internal goals and objectives. By linking individual performance with financial incentives, employees will feel more engaged and aligned with achieving the company’s strategic objectives, therefore inclined to work harder to meet these goals.
Attracting Top Talent: Experienced and skilled employees are more likely to seek out a company with a comprehensive compensation and benefit package. They will want to make sure that they are being rewarded for their hard work and will often look for a company that offers more than just a salary. In return, employees will feel that their skills are valued by the company, which will encourage them to perform their best.
Improving Employee Retention: Variable compensation is instrumental in retaining talent as it ensures that employees are rewarded for their ongoing performance and contributions to the company. Knowing that their efforts can directly impact their earnings over time, employees are motivated to stay committed to their roles and strive for excellence. This will help foster a sense of job satisfaction and loyalty, making them more likely to remain with the organization long term.
Tips for Implementing a Variable Compensation Plan
While variable compensation can yield great benefits to your team, it should be complemented with robust internal processes that set clear and achievable goals, provide regular feedback, and offer opportunities for professional growth and development.
When implemented thoughtfully, variable compensation can become a win-win situation for both employees and organizations. Here are some of our tips to ensure your compensation plan is working for you.
- Keep it Simple: All of your employees should have a clear understanding of what type of variable pay is included in their compensation plan as well as what the expectations are in terms of how to earn variable pay. The best way to do this is to make sure that your plan is simple, consistent, and leaves no room for interpretation.
- Set Realistic and Attainable Goals: To ensure that your employees stay motivated to meet company goals, you need to make sure that your goals are feasible for your team to achieve. Employees will only actively strive to attain goals that they feel that they actually meet, otherwise, they will become frustrated and possibly even demotivated towards the goals at hand.
- Communicate Expectations: Like mentioned above, employees should have a clear understanding of the company’s practices for variable pay. One of the best ways to do this is to write it down and make it easily accessible for your employees. Additionally, it’s generally a good idea to regularly refresh your team with expectations and consistently communicate if there are any changes to the plan.
- Evaluate Plan Regularly: As with any aspect of your compensation plan, you should evaluate your variable compensation plan regularly. Consistent review of your variable pay plan will help you monitor its effectiveness, or lack thereof, and help you identify if any adjustments are needed to ensure that it’s working towards your goals.
Manage Your Company’s Variable Compensation Plan
Core’s customizable sales compensation application has all of the tools you need to accurately calculate any type of variable pay plan for both sales and non-sales staff. Additionally, our web-based application gives your employees complete visibility to the components of their incentive pay with access to our online portal.