What is a compensation strategy?

When looking to attract and retain qualified workers, you need to evaluate how your organization approaches its compensation package and employee benefits. With a tight labor market and changing demands from job seekers and current employees, you may need to adjust your employee compensation strategy.

But what is a compensation strategy, and how does it impact your organization’s recruitment and retention efforts?

This article will explain compensation strategies, why they’re important, and how business owners can design one to fit their organization’s needs.

Takeaways from this blog post:

• A compensation strategy is crucial for attracting skilled workers, boosting morale and engagement, and reducing turnover in an organization.
• Common compensation strategies include straight salary, salary and commission, commission only, team commissions, profit margin or revenue-based, and residual commission.
• Each compensation strategy can be further tailored with employee benefits, bonuses, and other perks.

What is a compensation strategy?

A compensation strategy is how your organization offers pay and benefits to employees. This includes setting salary ranges, determining how raises and bonuses are calculated, and identifying which additional benefits you want to offer to your staff.

An effective compensation strategy should reflect your organization's needs, the culture you want to create, and trends in the external market.

Why is a compensation strategy important?

Your compensation policy can be the difference between potential employees applying to work for your organization or your competitors. It helps you compete for top talent, reduce turnover rates, boost employee performance, and more.

Let’s look at a few of the perks of having an effective compensation strategy.

Attract qualified job seekers

You'll attract more highly skilled workers when you offer a competitive salary range and fringe benefits. With the global labor shortage, there are more open positions than there are qualified workers to fill them. To fill your vacant positions, you need to offer a base salary and perks at or above current market rates.

When you have a standout compensation program, job candidates will view you as an employer of choice.

Boost employee morale and engagement

When employees are offered the perks and salaries they want, they’ll feel valued and appreciated. When they feel taken care of, they’ll be inspired to improve their individual performance, which increases productivity and employee engagement so that the organization can meet its business goals.

Reduce turnover

When your employees are satisfied with their pay and the perks you provide, they’re more likely to stay with your organization instead of searching for new opportunities with your competitors. This reduces turnover and saves you time and money on hiring and recruitment efforts and training to replace employees.

What are the different types of compensation strategies?

While every compensation plan looks different, you need to be aware of a few popular types of compensation.

Common compensation strategies include:

• Straight salary: Paying workers a base salary based on their role and job title.
• Salary and commission: Paying workers a base salary and added commission.
• Commission only: Generally used for independent salespeople, this involves only paying workers commissions for the sales they make.
• Team commissions: Similar to regular commission structures, salespeople earn commissions based on their sales. However, commissions and bonuses are based on how well the team performs as a whole.
• Profit margin or revenue-based: Employers pay workers entirely with the profits generated by the organization. Profit margin compensation is common with startups.
• Residual commission: Employers pay workers a commission based on sales and continue to earn revenue from their accounts, even after they leave the company. This is the least common compensation method, but some organizations may offer it to top-performing workers.

With each of these strategies, there are different approaches organizations can take. For example, with leading compensation, you set your pay and benefits above current market trends. This makes it easier to attract and retain talent and retain workers.

You can also navigate the competitive market by offering similar salary ranges and benefits to your competitors. This is the most common way for organizations to operate. However, your employees may still leave for competitors that offer more.

There’s also a lagging strategy where your organization sets salaries and benefits below market rates. This is usually done as a cost-saving measure for small businesses and nonprofit organizations. However, a lagging strategy can make recruiting top talent and retaining your employees more challenging.

Each strategy is further nuanced by employee benefits, bonuses, and other perks.

What are the different factors involved in creating a compensation and benefits strategy?

You’ll want to consider many factors as you develop your compensation strategy. Some key components to consider are your compensation philosophy, budget, the current job market, base salaries, raise structures, incentives, and perks.

We’ll review these components in the sections below.

Compensation philosophy and current strategy

The first step to creating a new strategy is identifying how your current structure is performing and what you want your new system to achieve. If your current strategy is attracting the right talent and keeping them long-term, there might not be a reason to change.

However, if your current plan isn’t working, consider what you want to get out of it. Is it an organizational goal to keep your current employees long-term or to hire an influx of new talent?

Next, consider your budget. How much is available to pay employees’ salaries? What about employee benefits? Knowing how much you can safely spend is key to shaping a successful compensation strategy.

Selecting a base pay structure

Choosing the right base pay structure for your organization is crucial to the success of your strategy. Will you differ salaries by roles, titles, departments, or skills and experience? Or do you want to offer a blanket salary regardless of skill or title?

The different pay rates include:

• Individual pay: Every employee has a different hourly rate or salary based on various factors such as their role, experience, and skills.
• Broadbanding: Using a set number of different pay groups rather than specific titles. For example, you could create one group for all administrative jobs.
• Market-based: The current market dictates salaries and pay grades.
• Job families: Offering the same pay ranges to similar jobs or departments regardless of specific tasks.

Once you’ve selected a structure or a hybrid structure for your organization, you can determine your salary ranges. This helps you determine the minimum and maximum base salary you will offer employees based on their roles or experience.

Determining raises

With a base salary strategy in place, you can now determine your organization’s raise structure. You’ll want to decide how often you’ll provide raises and the criteria. Will raises be automatic for cost-of-living increases, or will they be tied to annual reviews?

Step pay is a type of compensation where certain jobs or departments receive salary increases based on time with your organization and performance. For example, employees could earn a pay increase every year they work with the organization up to the maximum salary allocated.

Many organizations also use competitive rates to determine raises. This is when you adjust your pay rates to remain competitive in the job market.

You can also base pay progression on individual performance or your overall organization’s performance. This encourages workers to excel at their jobs and reach the organization’s goals.

Finally, you can give additional compensation to employees who take on professional development opportunities. If an employee learns new skills to advance in their career and take on new responsibilities, you can offer a raise to reflect their value.

Offering incentives

In addition to regular pay, you’ll want to consider any other incentives you can provide. For example, you could offer bonuses to all your employees or specific departments for reaching certain goals. If you have custom service representatives, you might offer a bonus for reducing response times or achieving high scores from customers. You can also offer commissions to salespeople, among other monetary rewards.

Creating a benefits package

Finally, no compensation package is complete without quality employee benefits. Benefits are any perks provided to your staff in addition to their salaries and other incentives. This could include health insurance, paid time off (PTO), retirement benefits, and fringe benefits.

According to our 2022 Employee Benefits Survey Report, health insurance is the most-valued benefit by employees. However, many small to medium-sized businesses can’t afford it thanks to rising traditional group health insurance rates.

Health reimbursement arrangements (HRAs) are an alternative to group health insurance that enables you to reimburse your employees tax-free for their qualifying medical expenses. Depending on the type of HRA you offer, this can include individual health insurance policies. This gives you increased cost control over your health benefits while giving employees more freedom to choose which health benefits are most important to them.

With growing diversity in the workforce, not all of your workers will value traditional one-size-fits-all benefits. Part two of our Benefits Survey Report found that the benefits employees value differ based on gender, age, and work environment, such as remote work.

One way that you can easily balance the needs of all of your employees is by offering employee stipends. You can offer a monthly allowance for various expense categories like health, wellness, remote work, education, transportation, and more to create meaningful lifestyle benefits with stipends. You can also offer one allowance so your employees can choose how to spend their benefits, such as on gym memberships or tuition. This gives your employees more flexibility without stretching your budget.

Conclusion

A strong compensation strategy is essential for attracting and retaining top talent. When your pay, benefits, and company culture are aligned, you’ll be better equipped to fill vacancies with the workers your organization needs to thrive. By following the tips in this article, you can create a framework for compensation that your employees will love.

If you want to offer competitive benefits, PeopleKeep can help. Our personalized benefits administration software makes it easy to set up and manage HRAs in minutes each month.

Schedule a call with a personalized benefits advisor to see how personalized benefits can bolster your compensation package

This blog post was originally published on October 26, 2022. It was last updated on January 22, 2024.