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Compensation Strategy

The purpose of a compensation program is to attract, motivate, and retain employees. In order to accomplish this goal, it may be helpful to develop an overall compensation philosophy. A compensation philosophy is similar to a mission statement and reflects the organization’s values and guiding principles related to compensation.

While compensation strategies will differ from one organization to the next, many address some common elements, including:

  • The competitive position of the organization’s compensation in relation to other organizations seeking similar talent (i.e., external equity).
  • How the pay structure reflects the value the organization attaches to a position in comparison to others within the organization (i.e., internal equity).
  • The mix between base pay and variable pay.
  • Performance management and merit based pay.
  • Benefits that complement wages.

External Equity

External equity looks at whether an organization’s pay is in line with what other similar organizations are paying their employees. External equity is commonly determined by reviewing salary data obtained through surveys.

Pay data is available from a variety of sources, including the Department of Labor’s Bureau of Labor Statistics (BLS), consulting firms, industry organizations, and other third parties. Employers should carefully review the sources of the salary data to ensure that they are reliable and that proper comparisons can be made. Pay particular attention to how the data was obtained, the number of employers participating, the number of employees covered, the geographic region analyzed, and the date of the survey.

While the BLS data is free, most salary data providers do charge a fee. However, some provide free results to employers that participate in the survey. Depending upon the size and complexity of your workforce, and the competitive positioning of your industry, you may want to consider participating in these types of surveys.

Internal Equity

Internal equity looks at the pay of one job in comparison to other jobs within the same organization. An employer lacking in internal equity may experience difficulties in employee morale, productivity, and retention. Internal equity is often determined through job analysis and job evaluation.

Job Analysis:

Job analysis is used to gather information about a job’s tasks, responsibilities, work conditions, and expected outcomes. A job analysis may include interviews with incumbents and supervisors, questionnaires, as well as direct observation.

Job Evaluation:

Job evaluation is the process of assessing the relative worth of a job to an organization. Jobs are typically assessed using a job ranking, grading, factor, or similar analysis. This assessment looks at variety of factors, such as the skills, education, complexity, and supervisory responsibilities required to successfully perform the job. Jobs are then assigned a ranking, grade, or points based on how they score during the analysis”that is, jobs that are more demanding and require more responsibility receive a higher grade or ranking.

Base Pay and Performance-Based Pay

Base pay is the foundation of most compensation programs. It represents the “fixed” portion of a salary an employee receives for consistently and effectively performing his or her job. In general, base pay is derived from employees’ knowledge, skills, and abilities, pay history, internal equity, and external equity. Base pay is typically adjusted annually through performance reviews and corresponding wage increases.

In an effort to better use compensation programs to motivate employees, a growing number of employers have implemented performance-based pay. Performance-based pay–also known as variable pay or incentive pay–is compensation that is tied to meeting specific goals. The incentives can be tied to individual or group performance. Performance-based pay is attractive to some employers because it recognizes exceptional performance without raising fixed costs.

One key consideration for employers is determining the mix between base pay and performance-based pay. That is, how much of any employee’s compensation is guaranteed and how much is at risk each year the employee is employed. The exact mix will differ from one organization to another and among different jobs.

Establishing Your Payroll Process

First and foremost, you will want to determine your payroll cycle. Some options include weekly, biweekly, semimonthly, and monthly. Note: some states have specific requirements pertaining to the frequency in which employees are paid. Check your state law when establishing your payroll cycle. Some states also require employers to inform their employees of the established pay periods this requirement can often be satisfied in the form of a poster. This should be addressed in the Employee Handbook and there should be a plan as to how paychecks will be handled on paydays that fall on a holiday, vacation, or weekend.

For purposes of payroll processing, be prepared to have employees fill out the appropriate forms to gather the following information:

  • Name
  • Address
  • Social Security Number
  • Department
  • Marital Status & Number of Exemptions
  • Special Allowances for Taxes
  • Pay Rate
  • Hire Date
  • Date of Birth

Additionally, your new employees must fill out your state’s W-4 (if applicable), the Federal W-4, and the I-9 form. Also, if an employee wishes to have his or her paycheck deposited directly into his or her bank account, the Direct Deposit Authorizationform should be filled out.

Processing Payroll:

It is up to the employer whether or not to process payroll in-house or to send it out to a payroll processing company.

Payroll Records:

Pay-related information must be provided to each employee as well as kept on file for each employee. Specific payroll record requirements are outlined below:

State and federal wage and hour laws require employers to notify employees of all earnings and deductions for each pay period (via a pay statement). In addition, the Fair Labor Standards Act (FLSA) requires employers to keep certain information on file for each individual on their payroll; this information includes:

  • Employee’s full name
  • Social Security Number, or other identifier
  • Home address
  • Date of birth, if the employee is under the age of 19
  • Sex and occupation in which employed
  • Time and day of week on which workweek begins
  • Total wages paid each pay period
  • Date of payment and the pay period covered by the payment

The following information must be kept for non-exempt personnel only:

  • For any week in which overtime pay is due, regular hourly rate of pay, the basis on which wages are paid, and regular rate exclusions
  • Hours worked each workday and each workweek
  • Total daily or weekly straight time earnings or wages
  • Total premium pay for overtime hours
  • Total additions to or deductions from wages paid in each pay period
  • Factors other than gender that are the basis for payment of any wage differential to employees of differing sex

Retention Period: These records must be maintained for a period of at least 3 years from the date in which they relate.

Employers must keep pay records safe and accessible at either the place of employment or one of the established central recordkeeping offices where records are customarily maintained. When pay records are kept at a central recordkeeping office apart from the place(s) of employment, they must be available within 72 hours following notice from an administrator of the Department of Labor or duly authorized and designated representative.’