What Is an Employee Compensation Plan?
- Human Resources
6 min. Read
Last Updated: 05/19/2023
Table of Contents
A compensation plan includes a company’s set of guidelines for delivering employees’ base pay, bonuses, and equity. A well-designed plan may also provide strategy for future company goals around employee compensation.
Having a compensation plan is a major component of your business. An employee's compensation and benefit options may significantly affect the quality of your workforce and your company's ability to attract and retain talent. A comprehensive compensation plan not only sets the value of what you’re paying, but also defines roles, levels, and outlines how performance will be evaluated.
Your business compensation costs, however, are more than simply an expense.
A compensation plan can play an important role in an organization’s overall budgeting and planning process. It can assist an organization in setting their budgets for employment-related expenses. Employers may also use a compensation plan to document benefits for employees to qualify for federal or state tax incentives. A documented compensation plan can establish guidelines and assist in complying with state and local pay transparency laws.
Compensation plans should comply with applicable state, federal, and local laws while striving to achieve internal fairness among similarly situated employees. It is important to note that where a state or local law provides a higher protection or benefit to the employee than exists under federal law, employers usually must comply with the more generous state or local statute. It’s always a great idea to have the compensation plan reviewed by an HR professional or outside counsel to help ensure competitiveness and compliance.
The Importance of a Compensation Strategy and Its Benefits
Generally, a compensation strategy includes the goal of attracting, motivating, and retaining top talent for the organization.
A compensation strategy should align with the company's values and objectives along with an explanation of how the plan will be implemented. The strategy should support the company's overall mission, vision, corporate culture, and strategy.
In developing a compensation strategy, the organization should determine whether they will set compensation at, above, or below market values and the degree to which employee benefits should complement the compensation package.
A company should also be aware of external factors (comparison of your pay practices within an industry), pay transparency laws, and internal factors (how you pay your existing employees versus each other and as compared to new employees).
Having a comprehensive and documented compensation strategy helps when an organization is looking to hire and retain talent. With a solid strategy in place, an employer can:
- Set pay ranges that can be used to assist in planning and budgeting
- Show employees how their compensation is tied to company values and the strategic plan for success
- Guide compensation decisions for newly created positions within the company
- Implement a methodology that helps to ensure that employees with similar knowledge, experience, and job duties are paid in a fair and consistent manner
When based on a solid strategy, a compensation plan can provide the following benefits to employers:
- Helps the company attract and retain talent
- Improves job engagement and job satisfaction for existing employees
- Sets parameters around compensation spending and provides a resource employers can use to evaluate their compensation practices against the industry standards
- Assists with compliance with pay transparency laws
What Is an Employee Total Compensation Package?
An employee's total compensation summary can be described as an employee’s direct compensation plus the benefits and incentives your organization offers. An employee total compensation package stretches beyond an employee’s rate of pay and often includes things such as benefits, bonuses, stock options, and non-monetary perks.
What's Included in a Total Employee Compensation Package?
When negotiating compensation with an employee or prospective employee, they may ask for certain items, such as a retirement savings plan, or a performance-based bonus, depending on what is most important to them.
A Total Employee Compensation Package will generally detail how the employer intends to pay the employee for their services (e.g., per-hour, weekly salary, etc.). If the employee is eligible for commissions or bonus programs, they should also be included. In addition to direct payments, compensation packages may outline indirect pay such as benefits plan options available and non-financial perks.
Additionally, the employer may opt to include a statement of other, nonfinancial items associated with employment, such as an in-house fitness center, career development programs, or employee recognition awards.
To attract top talent, Total Employee Compensation Packages should align with industry benchmarks and the relevant job market. Employers should audit their benefits packages regularly to ensure the total compensation they're offering is cost-effective and a good fit for employees.
Types of Compensation
A compensation plan typically identifies the different types of compensation offered to employees. There are two categories of compensation: Direct Compensation and Indirect Compensation.
Direct compensation is the monetary amount given directly to an employee. This amount is typically based on an annual salary amount, hourly rate, piece rate or a commission percentage and is included in the paycheck. Monetary bonuses and other financial incentives are also included in direct compensation.
On the other hand, indirect compensation is the non-monetary amount given to an employee. For example, benefit programs, profit sharing plans, or other incentives that are not paid directly to the employee. Paid time off, the employer's contributions to benefit plans, and other benefits such as student loan assistance are considered indirect forms of compensation as well.
Indirect compensation may also include non-monetary perks with values that are more difficult to measure. Flex time or remote work arrangements, career development programs such as in-house mentorship, and employee recognition awards are examples of non-financial compensation that can provide value to employees.
Incorporating the Different Types of Compensation Into an Overall Plan
Within an overall compensation plan, different types of compensation are used to attract and retain employees. These types of compensation may be non-financial, benefits or direct monetary payments.
Direct compensation can be calculated using an employee's base pay, variable pay, or a combination of both.
Base pay is typically paid to an employee for performing specific job responsibilities. It can be paid as a salary or hourly amount.
When building a compensation plan, each position and its associated responsibilities should be reviewed to determine the appropriate base pay for the position.
In addition to base pay, employers may choose to offer variable-based monetary compensation in the form of bonuses for example. Variable pay can be used to incentivize employees toward achievements that help the company meet or exceed its overall strategic goals. Variable-based pay may include things like performance-based bonuses, profit sharing programs, employee recognition bonuses or safety bonuses.
Employee Compensation Plan FAQs
What Are the Top Employer Costs Related to Employee Compensation?
Employer costs for compensation may include the following items:
- Base Pay
- Payroll taxes
- Employer's share of benefit plan costs
- Wellness programs
- Tuition reimbursement
- Student loan assistance
- Expenses related to the use of a company car
- Employee stock purchase or stock option plans
What Is Total Compensation?
Current and prospective employees often make career decisions based on the concept of total compensation. Some prospective hires may be willing to trade a lower salary for a richer benefit plan or more flexible work hours. Presenting employees with their total compensation from all sources, not just their base pay, can help the organization increase their ability to attract top talent and will better assist prospective employees with weighing career decisions.
How Do You Structure a Total Employee Compensation Package?
Employers can create a standard template listing all elements of compensation and fill in the line items as they apply to each individual employee. The compensation package template can be used to create offer letters and annual compensation reports for employees. Total Employee Compensation Packages may include the following items:
- Base pay, such as an hourly rate, weekly salary, or annual salary
- Variable pay, such as bonus or commission
- Value of benefits offered to employee
- Additional rewards such as flex-time options that can be described in non-monetary terms, or quantified, if possible
How Do You Calculate the Cost of a Total Employee Compensation Package?
On an annual basis, total employee compensation can be calculated based on the direct and indirect payments made throughout the year. The payments should include any compensation given to the employee in connection with fulfilling their job duties.
What Are Total Compensation and Total Reward Statements?
To increase employee understanding of how they are being paid and the cost of benefits being offered by the organization, employers may consider providing a total compensation or total rewards statement to employees. Both statements explain to employees how they are compensated or incentivized for their work.
Total compensation statements typically cover the amounts included in a compensation package: pay, bonus, commissions, and employee benefits.
In comparison, a total reward statement generally includes the components of a total compensation statement plus additional items. Job perks that are more difficult to measure on a cost basis but still make an impact on employees may be found on a total rewards statement. This may include (but is not limited to):
- Service or recognition awards
- Career development services available to employees
- Vacation and Leave benefits
- Retirement benefits such as pensions and/or 401(k) matches
- Health Care Benefits
- Child or Elder Care
- Legal Assistance
- Tuition Reimbursements
Ultimately, it's up to the employer to decide which statement option works best and when they should be distributed. A system such as Paychex Flex® Analytics and Reports Center can be used to generate a Compensation Summary Report at any time during the year. This type of report provides employees with access to their total compensation, including monetary earnings, bonuses, and medical and retirement benefits, providing an increased level of transparency.
Stay Competitive With a Well-Developed Compensation Plan
Solid data and analytics are the building blocks of a fair, competitive compensation plan. In addition to broader compensation studies and benchmarking reports, in-house data gathered in systems such as Paychex Flex Analytics and Reports Center can provide information needed to help create a competitive compensation plan.
If you're creating or revising your company's compensation policies, the HR professionals at Paychex's HR Consulting Services can offer guidance and support. We can work with you to create a benchmarking report. We'll also help by making recommendations to boost your recruiting and retention efforts.