While most employers say they pay for performance, many employees perceive little correlation between their performance and their supposedly merit-based pay increases. All too often, they hear “merit pay” but see an annual pay adjustment that adds little to their bottom line.
According to MSEC’s 2014 Miscellaneous Benefits and Pay Practices survey, 60 percent to 85 percent of participating companies report that individual performance is the primary basis for individual pay increases. This practice varies by employment size and is more typical of larger organizations.
As alternatives to merit pay, approximately 20 percent of employers grant “across the board” or general increases as their primary increase whereas 7 percent of employers provide cost of living increases (COLA).
What can make pay-for-performance more effective?
Companies put a lot of thought into determining how much to pay to attract the right candidates. But it’s equally important to ensure employees know why they receive pay increases and what they need to do to continue receiving them.
A pay-for-performance philosophy needs to align with the organization’s objectives, culture, demographics, and financial realities. It should also be reflected in the overall pay practices.
In addition, consider offering other programs to coordinate with pay for performance such as recognition or spot bonuses, which are very effective, timely, and often more cost-effective.
Budget with meaningful distinctions to reward high performers
MSEC’s annual Planning Packet provides data on common performance increases. For 2015, the most commonly reported increase was 3 percent for someone who meets expectations, while the most commonly reported increase for top performers was 5 percent. WorldatWork, a nonprofit human resources association, reports that 45 percent of employers give raises averaging about 1.5 times the increase for the employee who “meets expectations.” Nineteen percent of employers give their top performers two times the average increase.
This is perhaps the most common complaint among employees: that the increase they receive either does not reflect their performance or is about the same as someone whose performance is rated lower. Often, the merit pool is small, and if all those who meet expectations receive an increase, there is little left for those who exceed them.
It is time-consuming to communicate the purpose of the program let alone establish and measure performance expectations. Performance goals need to be simple, specific, few in number, and regularly monitored. Pay-for-performance is not intended to pay someone for simply doing their job. It is meant to reward employees who help the organization succeed and achieve its goals. Are there too many ratings such that it is difficult to delineate between “exceeds” and “far exceeds”? Do employees receive information about the program and timely feedback about their performance?
Managers must understand the system and be held accountable in their role. Too often, managers give high ratings to poor performers to keep them or to compensate for a salary structure that paid the job below market.
Do managers receive tools and assistance to determine the actual increase?
Many employers have used a merit pay system for years while others have just recently adopted one. It is important to regularly evaluate the success of the program. Common methods for doing so include turnover data, opinion surveys, and direct employee feedback.
While the concept of pay for performance is common, it isn’t easy. Clarity and consistency are critical. Every organization needs to consider its compensation philosophy and determine its commitment to the process.