Calculate the costs of performance based salary increases and create budgets for your whole organisation
Intro
Implementing a pay-for-performance system can boost employee motivation by tying pay to achievements. However, to make it work effectively, an organisation needs to carefully define metrics, communicate openly, and foster a culture that values excellence and fairness.
Without clear performance measurements and rewards, all of the benefits that come with pay transparency simply won't materialise. It’s critical to combine performance metrics that directly connect to rewards and consistently monitoring progress, so that employees can gain a clearer understanding of how their work impacts outcomes. By having these mechanisms and processes in place it will also relieve managers from subjective assessments during performance and pay reviews.
You can pay for performance in two ways
1. Merit based salary increases
- Rewarding individual employee performance by increasing their base salary in two ways:
- This could be linked to a promotion i.e. move from Level 1 to Level 2
- This could be linked to moving within a level i.e. moving from ‘New’ to ‘Established’ within a salary band. This isn’t a promotion.
2. Performance bonuses
- A bonus amount tied to the individuals performance (team and company performance may also be taken into consideration).
- This is NOT an increase in employees base pay.
- This calculator is not designed for performance bonuses, and they are not discussed on this page.
What do you need for a successful pay-for-performance model?
An accurate, objective, reliable, and credible performance-appraisal program is the foundation of a successful pay for performance program. Like all things it relies on trust, needing openness and candidness, providing employees with the right amount of information on how it works.
These will vary between organisations, but will typically look like the below:
Performance = Competencies + Delivery + Behaviour- Competencies: How you are developing against the expectations and skills at your current level and if applicable the level above.
- Delivery: What output are you delivering. Objective and target accomplishments (informed by OKRs, budget targets, and individual goals).
- Behaviour: Evaluation against your core company values. How you are going about your work.
- How are you going to measure and compare people?
- Can you distinguish high and low performers?
- How will you calibrate on what good looks like to make sure the process is fair and unbiased?
- How will you ensure that your measures of performance will be objective not subjective?
- What type of rating scale and system will you use?
- You’ll need to train managers on how to;
- Plan performance that links individual efforts with business plans and strategies
- Measure and evaluate performance fairly and consistently
- Provide feedback
- Use merit matrix
- Communicate assessment of performance and the allocation of rewards to employees
- How large a difference between high and low performers?
- Should low performers be paid an increase?
- Should average performers be paid an increase?
- What about existing differences in pay distribution i.e. where someone is in the salary band?
- What minimum tenure is required to be eligible?
- Can someone receive more than one raise per year?
- Are managers able to go outside the % increase parameters you set?
- Size of budget not to be exceeded. Usually a % of payroll.
- How to allocate budget to different business.
- Performance ratings for their employees
- If you lack access to employees' performance ratings during the budgeting process, you have the option to make an estimation of the percentage of the workforce you anticipate having in each performance category.
- Pay inequities i.e. the employees position in the salary band
- This is easy to calculate using the Justly compensation calculator, which shows either the compa-ratio or employee position in the salary band.
- Once you have these two data points, you can create a budget by mapping estimated performance and the employees position in the band.
- Speak to Alistair for more information on budgeting.
- Other factors that may influence merit based budgets
- Organisation financial results
- Cost of living/inflation rates
- Changes in cost of labour in order to remain competitive in the market place
The calculator contains two models for granting merit based salary increases
Model 1: Simple Performance Base Increase
In this model, individuals receive a fixed percentage increase in their base salary based on their performance score. Hence, two individuals in the same role with identical performance will get the same percentage increase. Although this may seem fair, it overlooks their respective positions in the salary band, potentially worsening existing pay disparities.
How to use the model
N.B. This model is used to estimate the total budgets required in each dept.
- Enter a department name and the current payroll for that department.
- Enter the estimated percentage of the workforce that sit within a particular performance score.
- Enter the fixed amount increase for each rating score e.g. someone who gets a performance score of 5 gets a 10% bump in their salary. Conversely a poor performer with a score of 1 gets no increase in their base salary.
- The calculator then estimates the £ increase in payroll based on the parameters you enter.
- With the final output, you should include a buffer of 1-2% to account for differences in employees positions in the salary band and their corresponding rates of pay.
Model 2: Based on performance and position in salary range
This model is deemed as 'fair' because it addresses and rectifies any potential disparities in regards to an employees position in their salary band i.e. all things being equal, a top performer at the lower end of the salary band will get a bigger % bump vs another top performer who is closer to the top the salary band.
The goal is to ensure that employees with similar performance levels within the same salary band are compensated equitably, thereby eliminating any wage gaps.
There are two ways to determine where an employee sits in the salary range
- Position in salary range - this looks at the employees position when compared to the whole pay range
- Compa ratio - Unlike position in band, the compensation ratio (or compa-ratio) is a formula designed to compare where an employee’s actual salary stands relative to the midpoint, unlike the position in band which looks at the whole pay range.
How to use the model
Regardless of which band position measurement you opt for, you’ll need to carry out the following steps:
- Set an anchor point
- The anchor is the box in the matrix where the "centre" of the employee distribution lies i.e. where you expect the majority of your employees to be, which is typically the middle of the salary range and the middle of your performance rating scale.
- The anchor point % salary increase should represent your overall budget, which is typically based on the average expected salary increase out in the marketplace. In the example below this is 5%.
- Fill in the other boxes in the matrix
- Once you have set your anchor you can move on to the other boxes in the matrix and determine the appropriate increase percentages for each of them.
- The model has a formula based on the horizontal and vertical axis inputs to set these percentages. Alternatively you can delete the formula and manually enter the desired % increase.
- Fill in the employee details
- Once you’ve filled out the merit matrix, you can move onto completing your employee details, by editing the blue cells.
- A ‘fair’ % increase based on the employees position in the salary band and performance score will then be calculated and the corresponding uplift in their salary.
FAQs
There are other ways for an employees pay to increase which are NOT related to performance
- Tenure based increases - sometimes referred to as scheduled increases, consists of salary increases based automatically on length of service.
- Market movement increases i.e. the market rate for a role increases due to competition for that role
- Inflationary increases i.e. based on increases in the cost-of-living. Usually, they feature 100% participation and it's typically an annual event.
Providing managers with an uplift range i.e. an increase of 4-6% and given them discretion on how to use this can lead to discrimination or favouritism.
Providing a fixed number ensures consistency and fairness in salary decisions across the organisation, as all employees will be treated equally based on the same criteria.
Consider the scenario where a significant portion of your employees falls within the lower third of their salary ranges, and almost everyone's performance has been evaluated as "exceeding expectations.”
In this case your anchor position would change as per the table below:
An "off center" anchor raises questions that must be addressed as part of matrix design process, such as:
Why are so many employees rated as "exceeding expectations"?
- Is it due to exceptional performance or a common practice of giving everyone top ratings?
- If it's the former, rewarding them all at an "above average" level may strain the budget.
- If it's the latter, it becomes the new average, leading to average salary increases. This can be unfair to those who truly excelled.
- Why are so many employees in the lower salary range?
- Is it because of new hires with potential for growth or chronic underpayment?
- Should market level increases be given, considering their position in the range and potential retention risks?
Whenever you're ready, there are two ways I can help you
If you’ve downloaded a template and would like help customising it, then you can book in a 30min session with me as a jumpstart to using it.
30mins = £75
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