What is a compensation package and what should it include?

Key components of a compensation package

There are five basic components of a compensation package. Each is discussed below.

Base salary

The base salary is the fixed amount you pay your employees on a regular basis in exchange for their contributions. It’s a key part of any compensation package, because it provides steady income and financial security. Companies usually set a base salary that reflects the job role, experience requirements, and local market conditions.

Bonuses and incentives

Bonuses and incentives are special rewards you offer employees when they meet or exceed certain goals. They help motivate your employees by rewarding them for above-average performance. They also show your employees that you recognize and value their contributions.

Some companies offer sign-on bonuses to attract new talent.

Commissions

For sales-related roles, most compensation packages include commissions, which are a form of variable compensation based on sales. For example, if an employee makes 10% commission and sells a $1,000 product, the employee would receive $100 of commission for his or her efforts.

A commissions-based compensation structure can be highly motivating, especially for aggressive, results-oriented salespeople. These types of employees have an “eat-what-you-kill” mentality, and they thrive in environments where they control their earnings potential.

Stock options

Stock options allow your employees to buy company shares at a fixed price during a specified period. If the company grows profitably, its shares are likely to increase in value, aligning employees’ compensation with the company’s success.

Stock options help create a sense of ownership and are a great way to invest in the future of the business. They don’t represent liquid cash for employees, but they can be incredibly valuable.

Employee benefits

Employee benefits include health insurance, retirement plan contributions, and paid time off. Many companies also offer life insurance, long-term disability insurance, and ER health costs to help with unexpected hospital expenses. Often referred to as indirect compensation, employee benefits add significant value to a compensation package, but they do not appear directly on your employees’ paychecks.

Types of compensation packages

Companies offer different types of compensation packages, depending on their needs and industry norms. A few common compensation packages are as follows:

• Base plus incentives: This package offers a consistent base salary with extra performance-linked bonuses and incentives. It is great when you want to offer reliable pay, but also incentivize your employees to exert extra effort.
• Commission-heavy packages: These packages are common in sales, where commissions make up the bulk of employees’ earnings. Some packages include a small base salary, but variable compensation is the focus.
• Equity-based packages: Startups often use these packages, which emphasize stock options (deferred compensation) over salaries (immediate compensation). These packages minimize expenses, which facilitates growth and enables employees to share in the company’s long-term success.
• Full benefits packages: These comprehensive compensation packages are most common in large, well-established companies. They include a balance of base salary, bonuses, and benefits, such as health insurance and retirement plan contributions.
• Hybrid packages: These packages reflect a combination of the offerings described above. They are highly customizable, which enables a company to implement a tailored compensation strategy that can enhance recruiting efforts and drive performance.

When you offer a competitive compensation package, you can attract and retain top-tier talent and improve the performance of your workforce. That said, establishing the optimal structure takes some work. 

Factors to consider when designing a compensation package

Creating a fair and attractive compensation package isn’t easy. It entails planning and thoughtful consideration for the factors discussed below.

Job roles and responsibilities

Every job differs, and one with a lot of responsibility typically requires a relatively high base salary and/or bonuses. The package you offer should reflect the work involved, skills required, and level of responsibility demanded. When you appropriately align pay with the demands of a job, you can attract and retain winning employees.

Industry and geographic standards

In addition to acknowledging the specific demands of a job, you need to incorporate consideration for the norms of  the industry and geographic region in which you operate. By researching industry standards and geographic trends, you can ensure your compensation package is competitive. This helps attract and retain skilled employees, thereby facilitating the long-term success of your company.

Employee needs and preferences

Each employee has unique priorities, needs, and preferences. Some employees assign a relatively high value to time off and flexibility. Others prioritize relatively high compensation and robust health benefits. Understanding your employees’ needs and preferences is key to designing a sound compensation package. Employees who feel supported and valued are typically more loyal  and motivated.

Company budget and financial considerations

Finally, your company’s budget plays a big role in designing a compensation package. Your offering needs to be affordable and sustainable. Generously compensating employees is important, but you can’t make payroll if you go bankrupt. Be sure to strike the right balance between adequately compensating your employees and running a fiscally disciplined operation.