Total Rewards and Compensation

Let’s imagine for a moment that about six weeks ago, you began interviewing for a management position. After three rounds of interviews, the company has presented you with a job offer. You feel both excitement and disbelief because you only have a few months of management experience. The company that has presented the offer is much larger than the company where you currently work. You start thinking of how the larger company size could increase your management experience, including the potential for promotion. And, since it’s a larger company, you’re thinking the salary is definitely going to be more than what you’re currently making. Things are looking up! But, as you look closer at the details of the offer, your enthusiasm quickly fades when you look at the proposed salary. It isn’t much more than what you’re currently making. This could be a deal-breaker. With more direct reports, a longer commute, and additional responsibilities, you’re wondering if in the end, taking the job may be more of an inconvenience than an advantage. You contact Human Resources to see if there is any room for negotiation. Their offer is firm. However, the HR representative sends you an additional document that lists their “highly competitive Total Rewards Package,” focusing on flextime, remote work options, discounted public transit, wellness programs, and a list of other things that don’t add up to higher pay.

…Or, do they?

In this video, we are going to present a detailed account of total rewards and various types of compensation. We’ll start by sharing the definition and concept of total rewards, along with the many components many total rewards packages may include. We’ll do the same with compensation when we cover its different types. By the end of this video, you will know enough about both to help you make a final decision for your job offer. Since we have as much to share as you have to consider, let’s get started.

Probably the most carefully considered item when being presented a job offer is salary. It makes sense; for many, the goal of switching jobs is to make more money. Another item usually tied into consideration of salary are health benefits. Most people taking a new job have the, “what’s-in-it-for-me” mentality, which is completely justified. However, in many cases, their focus is placed too heavily on two or three components of the job, when there may be other benefits that they’re missing. Think of total rewards as delivering a very detailed answer to the question, “What’s in it for me?” Total rewards are a combination of resources, programs, perks, and even employee events, which can all add up to make an impressive employment package. A summary of features might include professional development opportunities, work-life balance, incentivized wellness initiatives, paid holidays, paid leave, and paid time off, to name a few. Each of these, whether offered respectively or collectively, would classify as total rewards. Let’s take a closer look at some of the components you’re likely to find in a total rewards package.

First up: holidays and leave.

PTO, HOLIDAYS & LEAVE

When we think of vacation and holidays, we may assume that companies are obligated to offer these time-off options, but they aren’t. Vacation, holidays, PTO (paid time off), and some other types of leave might be deemed as benefits. Some of these are offered in more generous portions than others and with varying stipulations. Let’s break some of them down to get a better understanding.
paid time off

PAID TIME OFF (PTO)

PTO could be regarded as a “time off bank” that combines sick days, vacation, or any personal time an employee may need. Overall, these policies are commonly set up on an accrual basis, and over time, an employee’s PTO time bank accumulates for their use. And although this time may seem to build quickly, the fact that it has to be applied toward vacation or sick days, and personal time would limit how much or how often you could use it. For example, let’s say you start working for the new company on January 1st and their PTO policy has an accrual rate of 8 hours per month. If you don’t use any of the PTO that has accumulated along the way, by June 1st, you would have 48 hours of PTO available to take. This is a best-case scenario if life doesn’t happen to throw anything your way. But, if it does, and between January and June you called out sick one day and had to take a personal day on another, that would decrease your PTO hours by 16, leaving you with 32 hours.

Some PTO policies have rollover options. A PTO rollover allows employees to rollover any unused PTO hours into the following year. There is usually a timeframe in which the rollover hours should be used before being made unavailable for the employee to take. This could be policy-specific.

Other PTO policies apply a use it or lose it approach. If, by the end of the year the employee fails to use all their PTO, they lose any unused PTO hours without any option to rollover.

And finally, some policies are more generous, allowing unlimited PTO. This means that the employees’ PTO balances roll over from year to year, regardless of the amount. You may find unlimited PTO policies more customary in civil service, government jobs, and some non-profit organizations.

HOLIDAYS

Holidays and how they are observed can vary depending on the company and the industry. For example, federal employers will observe and pay federal holidays. Private sector employers may pay and observe some federal holidays, but not all. Like every employer, it depends on the terms set in their holiday pay policy as to which holidays they observe. Since holiday pay is not mandatory of employers, some may not offer it to their employees. For those that do, they may opt to pay their employees at an increased pay rate–such as time and a half or double time. As an alternative, they may pay at a set rate, such as an extra dollar per hour, or differential for each hour worked. We’ll talk more about differentials later on.

LEAVE

Different companies will have different policies pertaining to leave, most notably what constitutes paid leave or unpaid leave.

For those companies that don’t have a PTO policy set in place, they may offer different types of paid leave. Again, these depend on each company’s policies, but let’s look at some examples and descriptions to get an idea:

  • Funeral Leave – This is a set number of days an employee is allowed to take off to attend a funeral, depending on the policy and the employee’s relationship to the deceased.
  • Jury Duty – In states where pay for jury is mandated, employers must pay for every day the employee missed work while serving jury duty. In other states, it is at the employer’s discretion.
  • Sick Leave – This is a designated number of paid hours, days, or weeks allowed for employees to use to attend scheduled medical appointments or for unexpected absences due to illness. Like PTO, and with some employers, days can be “use or lose,” while other employers’ policies allow unused sick days to roll over from year to year.
  • Vacation – Paid vacation is usually offered to employees in weekly increments depending on years of service.

Paid leave is often more highly regarded than unpaid leave. And that would be so for obvious reasons. Even so, some unpaid leave can still hold value. For instance, if you exhausted your paid leave benefits, unpaid leave allows you to, in fact, leave as you need to. It is important to note that some employers may pay partially or fully for some of the examples we’re about to discuss; these are just some of the more common types of unpaid leave.

  • FMLA (Family Medical Leave Act) – This is a government-regulated benefit that allows an employee to take up to 12 weeks per year of unpaid leave to address matters related to their own serious health condition or to care for specific relatives with medical conditions. There are several other key components and eligibility conditions involving FMLA as well, so I recommend visiting the Official Family Medical Leave Act Site for full details.
  • Medical Leave (Non-FMLA) – This type of leave would be used if you exhaust your FMLA leave and still require medical attention without being able to work.
  • Parental Leave – This would be maternal or paternal leave that extends beyond FMLA. An example of this would be if after the birth of a child the mother or father has exhausted their FMLA leave and they wish to take additional time to care for their newborn child.
  • Personal Leave of Absence (LOA) – A personal leave of absence is usually associated with an unpaid leave request beyond FMLA, sick leave, or vacation. As mentioned before, it may be a last resort once all other paid benefits have depleted. A personal leave of absence is an excused absence from work for a short or extended period for extenuating circumstances. An example would be taking a leave of absence after losing a loved one. You may have utilized all the funeral leave that was available, but you are still grieving, and, to prevent your performance from being compromised, you decide to take a leave of absence to attend to your personal wellbeing. An Employee Assistance Program (EAP) may be a helpful resource when seeking a leave of absence or any other time where help is needed to address uncertain life events. We will discuss more about EAP a little later.
  • Military leave – Military leave is offered to employees who are active in the military. Employers grant employees military leave for however long the requested period happens to be. Military employees are then allowed to re-enter their civilian workplaces after active duty is complete without incurring the risk of losing their jobs while serving.

WELLNESS PROGRAMS

We’ve talked a bit about sick days and medical leave, which are always unfortunate circumstances to be in. Providing employees with a health-conscious work environment can help maintain reasonable costs for healthcare premiums while helping to prevent the frequency of sick days. Healthy employees have heightened morale and can become more collaborative and productive. An established wellness program helps to make it all possible. While wellness programs vary, we’re going to cover some of the more popular plans.

  • On-site fitness centers or Gym Membership Discounts – These are added bonuses and are generally highly convenient for employees. An open-access onsite fitness center can help them to easily incorporate fitness into their workday.
  • Ridesharing and public transit discounts – For those companies and employees eager to do their part in protecting the environment while reducing the stress that come with daily commutes, some companies offer discounts on public transportation passes. With ridesharing, employees who carpool can take advantage of reduced cost, free, or closer parking options at the worksite. Some ridesharing programs even offer cash incentives.
  • Healthy food options – These could include healthier food options in vending machines or daily fruit cart deliveries to all departments.
  • Wellness challenges – One of the more popular wellness challenges involves employees walking a set number of steps per day. Whichever team members maintain the standard or exceed it receive a reward. Tracking devices are usually distributed by a wellness coordinator. Daily steps are recorded onto designated websites by participants, then the wellness coordinator managing the program announces winners and issues rewards.
  • Smoking Cessation Programs – As the name suggests, smoking cessation programs encourage employees to quit smoking. They undergo an assessment and work with a third party that helps to determine how much they smoke. From there, the appropriate plan is identified. If the employee is successful in quitting smoking, some employers will offer cash rewards or other incentives.
  • Employee Assistance Programs (EAP) – Employers go beyond the focus of physical health by offering Employee Assistance Programs. EAPs are designed to offer counseling and other services to employees who may be facing life challenges that could affect their mental health. While most people may be familiar with EAPs when thinking of family or individual counseling needs, they also address matters pertaining to those who have problems with substance abuse. Some EAPs also offer financial and legal advice, identity theft deterrents, and even elder care options. Since companies establish EAPs with the third party EAP provider, the EAP services are of no cost to the employee.

Flextime and remote work options may not be considered as traditional wellness programs. However, times have changed. Demands are higher, and many companies have caught on that offering flexibility in schedules and work locations can improve their employees’ mental wellbeing and health.

CAFETERIA PLANS

Now, let’s shift gears and talk about cafeteria plans (and we’re not talking free or discounted meals in the company’s cafeteria). The term originated to describe the simulation of benefit plan options available to employees just as food options would be available in a cafeteria. These plans can also be referred to as “fringe benefits.” They fall within Section 125 of the IRS code, so they may also be known as “Section 125 benefits”. These plans are managed by company-appointed administrators, who also serve as compliance officers to ensure the terms defined in Section 125 of the IRS code are properly followed.
Cafeteria plans

Within these plans, employees have the option to apply a certain amount of their earnings to one of these “cafeteria plans” before taxes are deducted. Cafeteria plan types include dependent care assistance, life insurance offered by your employer, adoption assistance, accidental death insurance, and health savings accounts (we will cover HSAs in more depth later).

As appointed beneficiaries, employees’ dependents, partners, or spouses are eligible to receive the benefits of some cafeteria plans.

Let’s focus on two of the more prominent cafeteria plans: FSAs and HSAs. FSAs, which are Flexible Spending Accounts, can run in line with medical health plans to pay for medical services, such as prescriptions, any copayments due at the time of an office visit, and payment of the health plan’s medical deductible. This is one of the cafeteria plans that enables employees to set money aside from their earnings tax-free to reduce any of the out-of-pocket expenses just mentioned. Although companies are not required to do so, some may offer a match to FSA contributions as an added benefit or as a measure of total rewards. Let’s use the theoretical company you are considering as an example. They mention offering up to a $500 match to the yearly amount you contribute to your FSA. If you decided to contribute $500, they would match that $500, leaving your total annual FSA amount available to you and your dependents for use at $1000. If you decide to only contribute $300, they will still match with another $300.
Flexible spending accounts

Since they are managed by the company administrator, each FSA plan can differ. Some companies’ FSA third-party providers issue FSA cards that employees can use at the time of services to pay for medical expenses. Other plans require employees to retain their receipts from medical transactions and appointments, then submit them to the FSA plan provider for reimbursement. Details regarding payment or reimbursement of non-prescribed medical equipment or over-the-counter medication are specified by the IRS.

As mentioned before, an FSA is a cafeteria plan, so there are some restrictions that the IRS will apply. Each year, the IRS issues a maximum contribution amount limiting the amount employees can contribute. For 2020, the maximum amount was $2650.

The plan year for the FSA is determined by the FSA plan administrator. If an employer sets their benefit plan year to begin on January 1, it will likely end on December 31 of that same year. Keeping in mind that not all employees will be able to use all of their FSA funds, employers can choose one of two options:

  1. Give employees a 2-1/2-month extension into the following plan year for them to make FSA purchases and receive reimbursements, or
  2. Offer employees the option to carry over $500 into the following plan year.

It is important to note that employers are not required to give either option. If they choose not to offer any extension period or allowance of money to feed into the following year, employees would lose any unused funds from the plan year. Another thing to note is that flex spending plans are front-loaded by the employer. This means that the entire amount elected by the employee is available as soon as the employee is eligible for benefits. This allows employees to use the funds before their contributions from their paycheck deductions build up to the elected amount.

When considering the amounts you will contribute to an FSA plan, always keep the following in mind:

  • Your health plan deductible. This includes dental and medical. And, if you have dependents, note the family deductible amounts.
  • The company’s match amount. If you’re considering contributing the $2650 max, don’t forget to deduct the amount the company will be contributing as a match.
  • The frequency of doctor visits for you and your dependents.
  • The potential cost of prescriptions for you and your dependents.
  • The potential cost of any medical equipment for you and your dependents.

We mentioned earlier a few other flexible spending plans, such as adoption assistance and dependent care assistance plans. Both fall under the category of flexible spending plans. With adoption assistance plans, companies may reimburse employees for “reasonable and customary” expenses they may incur when adopting a child. This could include attorney fees and court costs or even travel expenses that may take place once an eligible child is identified.

Dependent care assistance plans allow employees to set aside funds (up to $5000) on a pre-tax basis toward dependent care services. With this type of plan, the cost of care for children under 13 and adults who are unable to care for themselves can be placed in a reserve account for payment to the caregivers of children and eligible adult dependents. This could be anything from summer camp, before- and after-school programs, elder daycare, etc. Like other flex plans, the amount you specify is broken down by the number of pay periods left in the year and deducted from your paycheck.

Similar to an FSA, an HSA, or Health Savings Account, is a cafeteria plan that permits employees to set aside money for medical expenses and equipment. It also runs in tandem with the employee’s medical health plans. The difference between the two is that an HSA plan is only available if the company has a High Deductible Health Plan. With a higher deductible health plan, the premiums will likely be cheaper. At the same time, it takes an employee longer to meet their deductible, so they will have to dedicate a higher amount to the HSA account.

The yearly limit for contributing to an HSA for 2020 was $3550 for an individual and $7100 for family coverage. The high deductible health plan must have at least a $1400 deductible for employee-only medical coverage and a minimum of a $2800 deductible for a health plan with a family coverage.

For example, let’s say the company where you’re considering the offer has a $1500 deductible for its medical plan. You know you will be opting for coverage for yourself and no dependents. The max you can contribute toward your HSA will be $3550. You may still wish to contribute the maximum amount, since even after you meet your deductible, you may still have other medical expenses you may want to prepare for. These could be prescriptions, co-payments, medical supplies, or equipment, and all would be tax-free.

Another difference is an HSA allows for unused funds to be carried over from year to year. It can even accrue interest, tax-free. Thinking about the example we just provided, this would alleviate the need to make last-minute purchases or appointments in order to meet end-of-plan-year deadlines. Instead, your unused funds would carry over into the following year.

COMPANY RETIREMENT PLANS

While we’re on the topic of setting aside funds, let’s talk about retirement plans. Whether you are 35 or 55, retirement planning should be approached with a high level of priority. It can safeguard you from being solely dependent on Social Security retirement benefits, which, depending on how long you’ve worked and for how much, can be barely enough to live off of in retirement. We will explain this further in a later section, but for now, we will cover the more common retirement plan types.

Many companies offer Roth IRA (Individual Retirement Accounts). These accounts are set up to allow employees to contribute their after-tax earnings toward these plans. As the balance grows, there aren’t any tax breaks for the employee to benefit from. However, once the employee retires and uses the funds from the Roth IRA plan, the money is available for withdrawal to them on a tax-free basis.

Companies will also offer a 401k plan, which includes an assortment of investment options for employees to choose from. Employees can specify an amount per paycheck to be deducted, or a percentage. Either would be taken on a pre-tax basis to their 401k. Some investment options hold higher risks than others, so employees have to pay close attention to these fund accounts and may move their money around several times before finding an investment option that offers more returns than losses. Some companies offer a match to 401k contributions that can depend on the amount the employee contributes. Some companies allow employees the duality of making their pre-tax contributions to their 401k along with after-tax contributions to a Roth IRA plan. 401k plans also allow plan participants to request loans. If a loan is requested, the employee usually pays it back at a lower interest rate than if they were to borrow from a bank. Employees can also receive a hardship distribution, which would be an early distribution of available funds in the account. A hardship distribution may be granted to an employee if they encounter financial hardship. Each plan has different criteria to meet in order for an employee to receive a financial hardship withdrawal, so it would be best to check with the plan provider to be certain. An early distribution could occur if an employee switches jobs and decides not to rollover their funds into the new employer’s 401k plan and they are younger than 59. When taking an early or hardship distribution, there are usually hefty tax penalties and fees. We mentioned a rollover earlier, and that term refers to an employee “rolling over” their funds from their existing 401k plan into a new one when they join a new company, and there usually are no costs that are tied to rollovers.
401k vs roth ira

A 403b plan is similar to a 401k plan by offering employees the ability to contribute pre-tax earnings. Depending on the plan provisions, loans and distribution withdrawals are also permitted. The difference is 403b plans are more commonly offered in non-profit organizations, like colleges, churches, and charities. Like a 401k plan, employees should do their homework on each investment vendor, which is chosen by the employer, to choose the best option for them.

Defined Benefit Plans, more commonly known as “Pension Plans,” establish a specified payout that is issued to the employee at the time they retire. Unlike a 401k or 403b plan, the funds issued to retiring employees are contributed by the company, and not from the employee’s paycheck. The company can contribute as little or as much as they desire toward employee pension plans. Without the uncertainty and risks of investment plans, pension plans can offer more predictable benefits than a 401k or 403b. The pension amount from the company is based on the retiring employee’s age, years of service with the company, and their earnings history during the time they worked with the company. Loans are sometimes granted with pension plans.

Much like a pension plan, but not exactly like a 401k plan, a deferred compensation plan is an agreement between the employee and the employer to withhold a portion of the employee’s earnings until a specific date, which is usually upon the employee’s retirement. Unlike a 401k plan where established accounts are already set for funds to be contributed, a deferred compensation plan is more informal with its basic agreement that exists between the employee and employer for the employee to receive a lump sum of all amounts they’ve contributed to be paid out to them.

An Employee Stock Ownership Plan (ESOP) is another retirement plan which is set up by way of a trust fund established by the company. Contributions to the trust are tax deductible, so this is a benefit to both the company and the participating employees. The contributions from the company are distributed into participating employees’ accounts, which are also held in the trust. The shares of the stock vary based on an employee’s salary, position or length of service with the company. Longstanding employees reap the benefit of having more shares over time, as well as voting rights in shareholder meetings. Newer employees usually have a waiting period before they have access to their accounts. Depending on the terms of the plan, once employees are vested in the ESOP, or if they leave the company, they are eligible to receive a lump sum payment or an established sum of money over an assigned time period. Once a payment is issued to the employee, their shares and ownership with the company are no longer active. After the employee is paid, the company will either reissue the shares, or they are voided.

SOCIAL SECURITY ACT (SSA)

The Social Security Act (SSA) was implemented in 1935 to protect individuals with disabilities, the elderly, and those who have been unemployed. Individuals falling into these categories face economic absences or hardships beyond their control. The program acted as insurance for members in these categories so that, when needed, government funds could be available to them.

Regarding senior citizens, the Social Security Act set up two provisions. The first was a set of cash payments for citizens over the age of 65 who were in need. This came in the form of immediate assistance to those falling in this category. The second was a set of payments to retiring workers who were entitled to receive these lifetime benefit payments by virtue of all the years they contributed to the American workforce.

The SSA designed two programs to address the needs of disabled individuals: the disability insurance program (also known as Title II) and the Supplemental Security Income (also known as SSI).

With the Title II disability insurance program, individuals who are disabled are paid from the Social Security trust fund that is funded through the Social Security taxes of their earnings. Their dependents could also receive benefits as well. Recipients are paid monthly, and the benefit is designed for those who have suffered long-term or have a permanent disability. For example, an injured worker who lost a limb and is classified as disabled resulting from a workplace injury could qualify for Title II benefits. This is because the injury he sustained had an adverse impact on his ability to work and could potentially hinder him from future employment. This would obviously affect his ability to care for his dependents, so under Title II they too could receive monthly benefits.

With Supplemental Security Income, these benefits are paid to adults and children with mental or physical limitations that prevent them from participating in common daily activities or responsibilities. SSI is also available to people over 65 without a disability who meet income guidelines. Individuals falling into this category are those who have aged but may not have had any substantial work history.

With unemployment compensation, the Social Security Act secured temporary payments to those who were unemployed for reasons beyond their control. The Act was set up as a federal and state collaboration, with the state serving as the administrator and the federal government handling the funds. We’ll go further into unemployment compensation here very shortly in a later section.

WORKERS’ COMPENSATION

We’ve talked about benefits that are available to employees when they join a company. Now, we can talk about benefits that may not make it to the offer letter, but are still benefits available to an employee while employed or after they leave the company. We’ll start with workers’ compensation.

Think of workers’ compensation as an insurance that a business must maintain to cover any injuries, associated medical expenses, missed earnings that result from the injury, and even death if incurred on the job by an employee. After an employee is injured, most policies require employees to contact the workers’ compensation insurance provider so that a case can be opened and treatment for the injured employee can begin. In some states, the employee also has a separate commitment to contact the state workers’ compensation authority by filing a claim with them as well. State agencies regulate the workers’ compensation process and can serve as dispute managers if there are ever any unresolved matters between the company, the employee, and/or the insurance provider. State agencies also help companies identify workers’ comp insurance providers so that they are compliant with workers’ compensation laws. Like with other topics we’ve discussed, when it comes to workers’ compensation, each state operates differently. Not all are required to have it. For example, in the state of Texas, companies can choose whether or not they purchase workers’ compensation insurance. Since workers’ comp has such a wide range of variables, an employee should visit the workers’ compensation administrative page for the state where you will be working to gain a full understanding of how the laws could potentially affect you as an employee.

UNEMPLOYMENT

Another benefit that employers pay for their employees to potentially use is unemployment tax. This tax, also known as the FUTA, is paid to the government by employers. This too could be considered as an insurance and is funded through both state and federal programs. This is an insurance that pays benefits to eligible unemployed workers. Although each state administers its own unemployment insurance program, all states must align with federal guidelines.

When companies pay unemployment tax, it covers the weekly benefit available to eligible employees who have lost their jobs. Employee eligibility is subjective and there is not a standard guideline that applies to all states. But, for the most part, employees who are terminated from their jobs without fault can usually qualify to receive unemployment compensation. Some examples of “without fault terminations” are layoffs, reduction in hours, or displacement. There are many termination reasons which could apply, and each case is examined closely to determine eligibility. At the same time, disqualifying reasons include termination due to misconduct or an employee resigning from a position without a suitable work-related reason. For example, an employee who resigns because they didn’t get along well with their manager would not likely be eligible for unemployment. On the other hand, if that same employee resigned because the disagreements with the manager were directly related to the manager’s disregard of safety or ethical standards, the employee’s unemployment claim could be more closely evaluated for eligibility and payment.

Now that you know about the broad array of benefit options and how they resonate with total rewards, we’re going to explain the behind-the-scenes details that are considered as employers design competitive and equitable compensation plans. Let’s get to it.

COMPENSATION PLANS

First up is what’s called a Total Compensation Statement. A job offer will likely include a section to outline the prospective employee’s current or most recent salary. It will also most likely include the proposed base pay, whether or not they are overtime-eligible, and any bonuses and commissions they would be eligible for and when, along with other compensable items like vacation and other paid time off. Businesses use this total compensation statement to show a visual of not only what is paid to you, but also shared expenses which affect you. For example, you may notice in a job offer letter that the company is offering 3 weeks of vacation. The amount paid for your vacation is an added component to the proposed salary. Just below that, they list the company’s amount of payment toward health, life, and disability insurance alongside the amounts for which you will be responsible. Each item is listed to provide you a visual of their total compensation statement.

The overall purpose of a company designing a total rewards package is to point out both the monetary and non-monetary compensation plans and benefits. We’re going to start with monetary compensation. Monetary compensation is exactly that: Financial rewards, or money that can be granted or earned from an employee meeting goals or for displaying exceptional job performance. We all know about how you can receive a pay increase after receiving a performance appraisal. This is considered monetary compensation. Tips for servers at a restaurant are considered monetary compensation. Wages, commission, gift cards, and bonuses of different kinds are all considered monetary compensation. Let’s look back at your hypothetical job offer. What if you proposed a signing bonus to supplement the difference in pay which they’re offering in comparison to your current income? If they agreed, the signing bonus would be considered monetary compensation.

Since it is not always tangible, non-monetary compensation is sometimes considered less valuable than monetary compensation. We have actually covered a large part of non-monetary compensation items in previous sections when we touched on health, pension, and other retirement plans; discounted public transit; time off; and discounted wellness activities and memberships. Others to add to the list are company sponsored parties and off-site events.

Since we’ve presented the types and differences between monetary and non-monetary compensation, we’re now going to go a little further to discuss pay structure. A business’ pay structure classifies how each person in their job position is paid within the company. This highly involved process consists of several steps, but the general goal is to ensure the pay that is offered to employees is competitive with the external market, while assuring that equitable pay exists for its internal employees. The first step in establishing a pay structure is knowing where the company stands in its approach to employee compensation. A company can either lead the market in their compensation pay practices, match it, or lag behind. For those wanting to lead or exceed the market, they obviously have the resources to do so and will likely attract more candidates. Companies that choose to meet or match market pay will at least be aligned with competitors while still gaining the attention of good candidates. And finally, a company that lags in its compensation rates may have no other choice due to budget constraints.

The next steps involve looking closely at the functions of each position and performing a job analysis for each. A job analysis gives a clear view of the type of work being performed and the level of skill required to perform it. The information for a job analysis is usually obtained from observations, recording job functions, or surveying the employee. After this information is obtained, clear-cut job descriptions can be created. The next step is grouping job positions into specific job categories. For example, a company that has an “administrative, management, and technical” category would likely list an Executive Assistant and a Receptionist in its “administrative” group. On the other hand, an IT System Administrator would be classified in the “technical” group.

Next, positions are ranked based on the responsibilities of the position. The receptionist position we mentioned would probably be ranked below the executive assistant. The lower ranking of the receptionist would probably be due to the level of experience and responsibilities of the receptionist in contrast to the executive assistant’s.

Once positions are ranked, market research should follow. Market research allows employers to see what other employers are paying their employees. It is not recommended for companies to reach out to other companies to confirm their compensation rates. Instead, they must refer to industry-based organizations or the Bureau of Labor Statistics to obtain free data. Otherwise, a third party could be consulted for help in obtaining pay data.
The information obtained from the pay data is then applied toward creating a salary ranging system. Pay grades can be established, and, depending on the size of the company, salary grades can be as compressed or broad as the company chooses. Each pay grade lists a minimum, midpoint, and maximum salary for each of the positions in the grade.

Pay bands, also known as salary bands, group several categories into one pay group. The amounts in each specified pay group may depend on cost of living based on the location of the position, longevity with the company, or the employee’s experience. Think of it this way. You join employees within a particular group so that they can be fitted into a pay band. Then, imagine another group that performs the same type of work, but has more experience; you place them in another band. We will use the receptionist and executive assistant we mentioned earlier as examples. We’ve already established that both fall into the “Administrative Group.” But, given the level of experience and responsibilities of the receptionist, they would be placed in the Administrative I category. Let’s say the Administrative I category was considered entry level with a pay range of $40-56K. That is a 40% difference, which is around the norm for pay bands when configuring the difference in pay for their minimum and maximums. Because of the level of responsibilities expected of the executive assistant, they would be placed in the Administrative II category, with a higher minimum and maximum pay of $50,000-70,000.
Table of minimum, medium, and maximum pay grades

As you can see, pay bands can overlap. When employees are promoted and move into a new pay band, they won’t always receive a pay increase. At the same time, moving into the new pay band will obviously increase their chances of a pay increase in the long run, since the newer pay band will offer a higher salary maximum than the previous.

The broad pay band structure has more narrow pay ranges consisting of wider pay bands. Job “grades” are lessened, which decreases the likelihood of overlap. Salary ranges between the minimum and maximums can differ up to 100%, or more. It also offers a company more flexibility in its pay scale. With a broad band pay system, the Administrative I salaries we mentioned before could be broadened to $40-80k, and the Administrative II salaries could be extended to $50-100k.

Differences in pay rates can occur when newly hired employees are paid at the same, or even higher, rates than the company’s existing employees. This is called wage compression and can come about for several reasons. A company could open a high-demand position where they’re offering signing bonuses and higher starting pay rates that exceed the salaries of employees who have been with the company far longer. The internal pay equity was not considered or evaluated, hence the differences in pay. This can also occur with minimum wage increases. New hires benefiting from higher minimum wage rates can easily and quickly surpass the wage amounts of their counterparts if market research and analyses are not performed. Any company dealing with wage compression would properly address it by consulting market data. This is an involved process that some companies avoid because of cost. Nonetheless, it is well worth the investment and may allow the company to avoid facing the loss of valuable employees in a massive turnover.

Part of that process is determining the compensation ratios or compa-ratios, which gauge fairness in pay within an organization. Compa-ratios are calculated by taking the actual salary amount paid to employees and dividing it by the midpoint salary range for that position. Then, take the result of that amount and multiply it by 100. The result is the percentage of the midpoint that the employee is being paid, which determines how closely to the market price they are being paid.

\(\text{Employee’s Salary}\times\text{ Midpoint of Salary Range}\times 100=\text{ Compa-ratio percentage}\)

Let’s use the executive assistant example we’ve been working with. Their yearly earnings are $60K. The midpoint of their salary is 65k.

\($60,000\times$65,000=0.923\times100=92.3\%\)

The executive assistant is making 92% of the midpoint/market amount.

The range spreads for compa-ratio percentages for a number of companies are between 80 – 120%. Companies tend to target 80% as their gauge for compa ratio percentages for the salaries of new hires or newly promoted employees. With the executive assistant’s compa-ratio percentage being at 92%, they are being paid at an acceptable level, since they’re not falling below the 80% target. It is important to note that it is possible for some employees’ compa ratio to be beyond 100%. This would mean their salary is on target with the market. Those with compa ratios that are higher than 100% are either well experienced in their fields if they have been newly hired, or outstanding performers if they’ve already worked with the company.

We’ve previously used the terms, “market rate,” and “market value.” Both refer to compensation levels and their competitiveness between companies, in comparison. Determining benchmarking levels consists of taking a company’s internal job descriptions and comparing them against salary surveys for similar positions to determine pay. Companies must first establish who their competitors are in their industry. Next, and as we pointed out earlier when we discussed pay structures, establish if their organization will lead, match, or lag in comparison to their competitors. Then, select the appropriate salary surveys that align with the industry and positions. Be mindful of the survey dates, being leery of data that is over a year old. Then, identify the positions you’re reviewing, looking closely at the numbers and statistics so that baseline minimums, midpoints, and maximums can be configured. It is also recommended that survey data sources be varied, not relying on the data from just one source. Compensation benchmarking helps to attract talent and appropriately assign equitable pay to employees eligible for promotion.

BASE, DIFFERENTIAL, INCENTIVE & VARIABLE PAY

If you have ever worked outside of the core business work schedule (Monday thru Friday, 9-5), you may have heard of differential pay. We’re going to talk about that, and three other pay types: base pay, incentive pay, and variable pay.

With base pay, it pays only the salary or hourly amount offered and does not include any overtime, commissions, bonuses, or benefits. A base pay could be broken down into hours, days, weeks, or months. If you are offered a job and the offer letter states that your base pay will be $70,000 per year, that is the base amount you will receive, not including additional amounts that commissions or bonuses would add.

As previously mentioned, differential pay occurs when an employee works outside of what is considered as a “normal” shift. Differential pay offers extra compensation for night, weekend, or holiday shifts, since working during those periods is not as favorable for some. If an employee who makes $20 per hour and works the second shift where there is a “night differential” pay rate of $1.50, the employee would earn an extra $1.50 for each hour they work.

Incentive pay refers to any bonuses issued to employees as compensation for meeting a goal, or as an incentive to retain or motivate them. Incentive pay is rarely guaranteed. An example would be an employee receiving $5000 as a holiday year-end bonus for their contributions. If the company did not experience the financial gain they’d expected, the $5000 holiday bonus may be reduced or forfeited.

Variable pay is also considered incentive pay, but it is directly tied to performance or meeting specific goals such as sales quotas. Commissions are one type of variable pay, so if an account representative’s salary is $50,000 with a 25% targeted bonus percentage for meeting quotas, the account rep could earn an additional $12,500.

Variable pay offers the perfect segue to our next topic, which is piece rates. The term “piece rates” refers to the amount the employee is paid per piece or unit of design. The unit could be articles of clothing for a seamstress or furniture pieces for a furniture manufacturer. In these cases, individuals are paid by the number of pieces or by the unit they’re able to produce. Regular piece rates are calculated by taking the number of pieces produced and multiplying by the price per piece, or the unit amount. For example:

  • If a seamstress is paid $25 per article of clothing and produces 5 articles of clothing in a work week, their earnings are calculated at $125.00.
  • A furniture manufacturer pays its employees $50 for each piece of furniture manufactured in a 40-hour work week. If one employee completes 10 furniture pieces in one week, their earnings will be $500.

Let’s continue on with two more compensation plans. Employees working for a global company may be sent abroad for a temporary assignment. This occurs in cases where there is an ongoing need at a company’s location abroad, and multiple travel expenses back and forth internationally are not practical. In these cases, companies must set measures to properly accommodate their expatriate employees by adjusting their salaries, benefits, and family and living accommodations. A global and expatriate compensation plan would be highly necessary in these scenarios. It requires expert-level knowledge to create and manage these highly complex plans. Compensation professionals would have to closely consider pay practices in the host country, as well as the overall cost of living. These compensation plans must also consider how the employee’s benefits will be paid. Will their benefits continue to be effective in the home country, or, if their benefit plans do not provide coverage abroad, will the employee be required to adopt healthcare benefits in the host country? Other items to consider when developing these plans are language-training classes and tax compliance.

Lastly, an executive compensation plan is quite different from the rest of the workforce. A large part of an executive’s job is to optimize company performance. They benefit substantially from this, and their compensation plans are designed to reflect their labors in the following areas:

  • Base pay – paid at a much higher level
  • Bonuses (performance-based)
  • Long-term bonus incentives – stocks, etc.
  • Benefits – the benefits of an executive are similar to employees’ plans with the exception of special retirement plan options.
  • Perks (referred to as prerequisites) – these depend on the package and the company, but many perks can include a company car, drivers to and from work, special parking privileges, etc.
  • Contingency pay (severance agreements if terminated without cause) or change in control agreements – this clause offers an executive added protection from losing their jobs from the company merging or through its sale.

PERFORMANCE-BASED PHILOSOPHY & ENTITLEMENT-BASED PHILOSOPHY

To end this video, let’s discuss pay philosophies. There are two types of pay philosophies that can exist within an organization. The first is the performance-based philosophy. This philosophy supports employees being paid for meeting their goals and for their contributions to the success of the business. This philosophy can also help to retain employees, since money is a consistent motivator. Variable pay, which we discussed earlier, is often used as part of a performance-based philosophy. Among these are retention, spot, and company-wide bonuses.

Entitlement-based philosophy stems from the thought that regardless of performance, employees should be incentivized or well-compensated for reasons outside of performance, such as loyalty or length of service. You can find the entitlement-based philosophy in union environments, specifically for these reasons. Over time, as employees continue to receive pay increases without any significant changes or improvement to their work performance, the entitlement-based philosophy becomes deeply rooted and can be very challenging to eliminate.

Okay, we’ve covered a lot in this video, so before we close, let’s weigh the pros and cons of the hypothetical job offer presented at the beginning. Do you still have concerns about the pay? Consider any savings for health insurance the new company may offer which might even offer higher coverage levels than your present insurance. As for the longer commute, look closely at any rideshare, public transit discounts, or even working remotely. At this point, you get where we’re going with all of this. Beyond salary alone, the total rewards offered by a company can give the prospective employee the clarity they need to see the “bang” the company is offering for their buck.

That’s all for this review! Thanks for watching and happy studying!

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by Mometrix Test Preparation | Last Updated: July 27, 2021