Paper Trails

Performance Based Compensation

There are many ways to motivate your employees. Offering competitive pay, a strong benefit package and an inclusive work culture promote employee engagement. Another way to push your employees to produce results is to offer them a performance based compensation package. Continue reading for more information and best practices on performance based compensation.

What is performance based compensation?

So, what exactly do we mean by performance based compensation? This is when an employer agrees to pay an employee for performance or work that exceeds the employer’s expectations. Should an employee go above and beyond their normal job duties, an employer will compensate that work. The payments for these employees can be in the form of a bonus, stocks, cash, raises, or other options.

Writing a policy for performance based compensation

When creating a performance based pay structure for your business, there are some guidelines to follow. First, make sure that this pay structure is right for your business. Not all industries or businesses are setup to provide this type of payment structure to their employees. Next, include a detailed policy in your company handbook. Your policy should outline the following:

  • What is considered work that is beyond expectation
  • Which employees are eligible for this type of pay structure (job classifications, length of service)
  • When are these payments paid out
  • What form of payments are given out

Finally, as with any company policy, be consistent. Not following your policy consistently causes confusion among staff and lowers employee morale. One of the biggest mistakes to a performance based compensation structure is when employers do not follow through with their policy on every occasion.

Benefits of this type of employee pay

There are numerous benefits of this type of pay structure. Let’s take a look at them.

Produces better results

The biggest benefit of performance based pay is the fact that employees are motivated to produce better results and achieve the goals management has set for them. Words of encouragement or other recognition strategies only go so far. Generally speaking, most employees would rather a monetary reward for their outstanding work. Employees will work harder knowing that they will be paid more than those that do not.

Fixes your weaknesses

Next, you will be easily able to identity those employees that need improvement. It can be easy to overlook those that are providing just adequate or below average work when they are making the same wage regardless of performance. Pinpointing those employees that do not regularly receive extra pay allows you to focus your training efforts on them to improve performance. Sometimes it is not about their work ethic but about your business’ training program. This is a great opportunity to improve as a business.

Improves employee retainment

Another benefit of this pay structure is the improved employee retainment that comes along with it. In today’s society, it is as important as ever to keep your employees happy. Rewarding them for their hard work is vital in doing that. Candidates, and even your current employees, are looking for opportunities where they can receive increases in pay and bonuses. Being on the forefront of that movement can put your company ahead of the competition.

Aids in the hiring process

Hiring is hard. Attracting top talent to your business plays a huge part in your long-term success. Your business will be more appealing to qualified individuals that know they will be compensated for their hard work. This is a key way to stand out above other companies in the eye of applicants.

Downfalls of performance based compensation

As with anything, there are a few negatives to a performance based pay structure. Make sure to take these into consideration when deciding if performance pay is right for your business.


Performance based pay may come with some confusion for employees. There could be a difference of opinion between employer and employee on what qualifies for extra compensation. Employees that believe they deserve compensation for their work, and do not receive it, can become discouraged. Furthermore, this could have a negative impact on their future performance. This is why it is extremely important to write a policy around your pay structure and stay consistent.


While recognizing hard work with monetary rewards promotes better performance, it can also cause stress for certain employees. Employees can put too much pressure on themselves to reach their monetary goals. They can also be stressed that if they do not outperform expectation daily, they will be disciplined or terminated. This extra stress can have a negative impact on employee morale and your business’ work environment.

The cost to your business

Sometimes, this payment structure can be costly to your business. On one hand, when your employees are performing well, your business should be bringing in more revenue. On the other hand, if all of your employees are constantly achieving their goals, you could be cutting into your profit margin and paying higher labor costs than you want. While it is unlikely to happen, making these large lump sum payments to all of your employees at the same time can be costly. Make sure you have planned your finances accordingly.

Is performance based pay right for my business?

This type of payment structure is not right for all business. Think about your company goals and your financial health. Also take into account your industry standards and your company’s work environment. Weigh the pros and cons of this pay structure, talk to a financial advisor, or reach out to us if you need additional assistance.