Employee compensation: A guide for small businesses

It’s easy to think of employee compensation as just dollars and cents. But happy employees who are dedicated to your company and satisfied are worth a lot more than the numbers on a ledger. Being able to give workers what they want isn’t as simple as matching or beating the salary your competitors offer, though. 

You need to balance base pay with other kinds of monetary and intangible rewards to keep your employees happy and your company profitable. Let’s take a look at how to approach compensation, how it can impact employee retention, and how to evaluate your compensation packages.

Why employee compensation packages are important

The compensation you provide to your employees directly contributes to the health of your business. Good compensation keeps your employees happy, which helps improve productivity and retention. When your team feels like they receive fair compensation, they’re more likely to recommend your business to other people in the field who are looking for work. 

To stay competitive, your company will need to offer compensation packages that will attract top talent. Today, nearly half of businesses are preparing to increase pay for workers. Those looking to increase pay expect to provide raises of between 7-12%.

Because payroll is likely the largest expense your company has, it’s also important to structure employee compensation in a way that satisfies current and potential employees without completely eliminating profits. Striking the proper balance between happy employees and profitability is easier when you understand the different kinds of compensation and how to combine them. 

Types of employee compensation

Compensation is a lot more than a salary. It’s the total of all the financial (and nonmonetary) benefits an employee receives from their employer. By balancing a competitive salary with desirable insurance plans, commissions, and paid time off (to name just a few possible forms of compensation), your business will have better employee retention, which will help you grow.

Base pay

Base pay is the amount of money that an employee is paid for doing their job. You can pay out base pay as a salary or an hourly wage. A salary is a fixed amount of pay based on a yearly total that you'll pay out regularly, while hourly wage is the amount an employee receives for each hour of work they complete. Minimum wage differs by state, so check that your company is complying with all regulations.

Base pay goes out to employees on a regular schedule, usually every two weeks or twice per month. For many people, base pay makes up the majority of their paycheck. 

Base pay is taxed as earned income and is impacted by the amount the employee earns as well as any deductions they make. Base pay makes up the pool of money employees use to pay for employer-offered benefits like insurance plans and retirement savings.

Commission 

Commission is a sum of money an employee earns upon completion of a specific task or duty. It's usually based on the number of sales someone makes but can also be for completing work above and beyond a certain amount. Employees can earn commission in addition to base pay, or it can be a replacement for base pay.

Commission that is a part of employees' normal paycheck are taxed at the same rate as base pay. Commission that an employee has earned separately is taxed at 25%.

Equity

Equity, also known as stock options, is a form of compensation where a company offers a percentage of ownership to employees. For startups and other young companies that can’t offer the highest or most competitive salaries, equity plans can be an attractive incentive to potential employees.

Equity plans typically have a vesting period—the amount of time an employee has to remain with the company to claim their part of the business. Create an equity pool of a certain set percentage of ownership in the company that you can divide between employees.    

Owner’s equity is taxed as regular income as an employee earns shares. When they sell those shares, the employee will owe capital gains taxes.

Indirect compensation

Indirect compensation refers to the parts of a compensation plan that aren’t paid to an employee in the form of money or equity but are still valuable. 

These fringe benefits (non-wage or indirect compensation perks) can include:

• Offering insurance through a company plan
• Paid time off
• Contributions to a retirement account
• Company cell phones
• Child care
• Remote work stipends
• Wellness stipends
• Education assistance

Some forms of indirect compensation are required by law if your business employs a certain number of people, while you can offer others as incentives for attracting new talent or retaining existing workers. 

Health insurance and retirement account contributions are tax-advantaged payments. That means employees pay less or no taxes on them. 

It’s also important to remember that not every employee will be motivated by the same forms of compensation. 

Intangible/non-monetary compensation

Intangible and non-monetary compensation are some of the things that make your company an attractive place to work but don’t necessarily have a dollar value. These benefits can make up a big part of what’s commonly called “company culture.” 

Some of these intangible perks include:

• Flexible schedules.
• Working from home.
• Providing time off for charity work.
• Public recognition of employee efforts.
• Social events like parties.

While some employees might appreciate expanded insurance options or other intangibles, 67% of workers said they would prefer more pay over expanded benefits.

Now that you have a better understanding of the types of compensation, let’s look at how you can build a compensation plan that will make your company the place the best people in your industry want to work. 

How to create competitive employee compensation plans

Planning and implementing compensation packages takes some time and effort but it’s easier than trying to tack on benefits randomly to try to keep existing team members or find new ones. 

To create plans that work for you and keep your employees motivated and happy, follow these best practices as you plan:

• Stay within a budget.
• Align with your business goals.
• Comply with local and federal laws.
• Be competitive.

With these elements in mind, it’s time to begin the process. 

1. Review existing plans 

The first step in building a more competitive and cost-effective compensation package is to look at what you’re already doing. Examine what you currently offer and compare it to what current and former employees have said is positive or lacking. Run payroll reports to review current salaries, the cost of the other benefits you offer, and compare your existing plan with past plans.

Also evaluate your existing benefits to see if employees actually use them. Many people like the option of gym memberships and other wellness programs, but not everyone uses them.

2. Compare your plans to the competition

Once you have an accurate accounting of your compensation plan, it’s time to look at what your competitors offer. To get relevant information, you should focus on businesses in your field, in the same geographic area, and with a similar number of employees. By looking at companies similar to yours, you can get a realistic idea of how your compensation packages stack up.

Finding exact pay and benefits data for competitors can be difficult. Many companies don’t publish this information, though laws in some states now require employers to make pay ranges public. 

For a better idea of what others offer:

• Check competitor websites and job sites for open positions.
• Look at entries on sites like Glassdoor for anecdotal evidence.
• Reach out to professional organizations in your industry.
• Pay for market research.

Compare what you learn to your current plan to see where you fall short. You can also call attention to what puts you ahead of competitors in job listings. 

3. Survey your employees

The best way to find out if your compensation plans are working and how you can improve them is to ask your workers directly. It’s helpful to take the information you gathered in the first parts of the process to create an anonymous survey you can send to your employees. They'll be able to talk about what needs you already cover and what they want to see you offer in the future.

Collect and tally the results to look for trends. If a large majority of your team wants something you don’t offer, that’s a sign that you should look into it. For example, half of businesses see remote work as a way to retain employees. A survey is also a good way to take the temperature on the exact plans and perks you offer. The results may not always be positive, but use constructive criticism to build something better.  

4. Create total compensation statements

Total compensation statements include a list of the monetary and non-monetary compensation an employee receives each year. You can provide these statements to each employee with their paycheck or as a part of a review to show them that their compensation goes beyond their salary. If you provide non-monetary compensation, include information about those programs so employees can take advantage of everything you offer. 

A total compensation statement also provides you with information about how much employing someone costs. That information will enable you to more accurately compare your plans to your competitors.  

5. Audit and adjust compensation regularly

After you have completed the previous steps, you can start pricing additional programs. If you want to expand your insurance coverage, contact your existing provider to see how they can accommodate those needs. But don’t forget to reach out to other companies to see if they will match or beat premium prices or add extra features at the same prices. 

You or your HR team should be looking for ways to save the company money while retaining employees and without sacrificing the quality and features your employees count on. Regular audits and adjustments will help you keep costs under control. You should complete these audits annually, if not more frequently.  

Next steps for streamlining your payroll process

Understanding the full cost of employing someone helps determine the cost of keeping great employees and bringing in new ones. Managing employee benefits can be tricky if you don't have dedicated HR or payroll software. QuickBooks can streamline everything from your time tracking to payroll in order to make your business run more smoothly.