Creating a Sales Compensation Plan that Motivates Reps
A clear and concise sales compensation plan is the best way to attract and retain the best talent for your company. It also needs to be competitive with the market and adequately encourage your sales team to keep them performing at their best. There are many ways to set up your company’s sales compensation structure, which can vary based on a number of factors like your budget or sales-specific ecosystem. In this article, we’ll provide a general overview of where to start when creating a sales compensation plan, the most common compensation models and commission structures, and a compensation plan template for your reference.
Where to Start
In a Forbes panel regarding sales team compensation and commission structure, industry experts discussed how compensation plans should provide an equal chance at attainable success for all employees. The first step is to bring a knowledgeable team together who can create the best sales compensation strategy for the company. This should include a sales executive who understands the job requirements and complexities, as well as someone from your finance or accounting team. It’s also a good idea to bring in the legal and human resources teams to ensure the compensation plan is:
- Properly Documented
- Transparently Communicated during Negotiation and Onboarding
- Applicable Employment and Wage Laws are Met
(For sales teams based in the United States, it’s important to confirm that the compensation plan meets federal wage guidelines, like the Fair Labor Standards Act (FLSA), as well as any state-specific laws that relate to payment timing, minimum wage, and other potential employer regulations.)
Here are some factors to keep in mind when creating a sales compensation plan:
1. Market Value and Competition
Your compensation structure needs to be competitive within your industry. A recent poll by TINYpulse, an employee engagement and feedback software, showed that 43% of workers surveyed would be willing to leave their companies for a 10% salary increase. In order to incentivize and retain your employees, you will need to ensure that your compensation structures are up to date with the market. Outside salary experts or consultants can be particularly helpful in this case. Furthermore, public statistic resources can also be a great place to start. Check out the US Bureau of Labor Statistics online resources or recent international workforce surveys for the most up to date wage data.
2. Location and Living Costs
Your sales team’s location matters when it comes to salary market value, but also in regards to their cost of living. So, it’s important to understand the local housing and commuting costs in the area. This applies to remote employees as well. Understanding and adjusting for the cost of living benefits your team. It also ensures you’re neither over-paying nor underpaying employees.
3. Company Budget and Sales Goals
It is very important that your annual budget and sales targets are fleshed out before you create your compensation structure. Companies that do not have much capital might be more apt to hire commission-only sales reps to reduce their costs. While a more established company with a larger sales force may offer a mix of salary, commission, and bonus frameworks. Setting smart goals and having a comprehensive budget will help you create more accurate and reliable compensation structures as the company evolves and grows over time.
Breakdown of Sales Compensation Models
The most common structure for a sales compensation plan is the combination of a base salary plus commission. Other options include commission-only, which means the sales rep has no base salary or only a base salary with no commission structure. The format you choose is entirely dependent on your perceived sales, expenses and your budget.
If you decide to go with the most common sales compensation structure of base pay plus commission. You’ll want to determine what the On-Target Earnings (OTE) will be for the position. Prospective employees need to know how much they would be getting annually if they were to reach their sales goals. So, it’s important that the OTEs are up-to-date and tailored for each sales role.
Salary-to-Commission ratios can range anywhere from 75:25 to 50:50 to 90:10, but the average is generally 60:40 — meaning 60% of the employee’s compensation will come from a set salary, and 40% will come from earned commissions based on sales performance. When determining the ratio be cognizant of location-specific costs of living, as the base salary should be enough to cover basic needs.
Other aspects to keep in mind when determining the salary-to-commission ratio are:
- Structure and size of the sales team
- Size of the company
- Type of product you sell
If you sell a product that has a high price tag or is highly technical, the complexity of the sales cycle might be impacted. Sales performance can also be influenced by the industry type, your target markets and the types of prospects.
When you’re creating your sales compensation plan, you should also consider how to handle paid time off (PTO). Should sales reps be held accountable for their quotas while taking PTO? Again, this is dependent on your company and the policies you create with your HR team. It can be useful to think proactively in terms of setting quotas. If you set sales quotas quarterly or annually, sales reps are likely to reach their goals even if they take two weeks off. If you set quotas monthly, it may be a bit harder.
Sales Commissions Structures
There are many different options when setting up a sales commission structure. The most popular are performance gate, revenue-based, and gross profit-based commissions.
1. Performance Gate Commission
Performance gates are thresholds that adjust the commission percentage each time a sales rep reaches a certain amount. For example, let’s say an employee is guaranteed a 5% commission on all earned sales between $1-$499,999. Once they pass that threshold and hit $500,000, their commission percentage goes up to 6% until they hit a threshold of $999,999 and so on.
2. Revenue Commission
Revenue commissions are based on the total amount of the sale. For example, if an employee is guaranteed a flat 5% commission on all sales and they make a $100,000 sale, then they will receive $5,000. The commission percentage holds firm no matter the total revenue generated by the employee.
3. Gross Profit Commission
Gross profit commissions are based on the actual profit made from a sale, not the total amount of the sale. For example, let’s say an employee is guaranteed a flat 5% commission on the gross profits of all sales. If they make a $100,000 sale on a product that has a gross profit of $50,000, they would then make $2,500 in commission on that particular sale.
Some sales organizations include a cap on the amount of commission an employee can earn per year. Generally speaking, capping commission is uncommon as it may lead to lower motivation and effort if the salesperson knows they’re limited in how much money they can earn.
Payout of the Sales Commission
Once you determine the type of sales commission structure, you’ll also want to decide how you want to payout the commission. Your payment schedule will depend on how often you want to incentivize your sales team. However, it also can be based on specific sales goals and budgets. Payment schedules may also rely heavily on when you consider a sale actually closed. This might be when the client signs the contract or when the client actually sends payment. The company budget may come into play here as well. If the company doesn’t have much capital, then paying a sales rep before receiving money from the client may be risky.
Some companies that pay their reps before the client pays the bill include a clawback note in their plan. These clauses ensure that if the client ends the relationship early or the deal falls through, the commission can be taken back by the company. If you want to include a clawback clause, it’s best to consult your legal advisor. So, you can confirm that a reversal can be performed in your specific country or state.
Along with sales quotas and commission percentages, you can also create monthly goals and sales contests. It can be useful if you want to increase incentives with the option to receive additional bonuses.
Sales Roles Breakdown: Compensation Differences
OTEs for a sales team member can be based on many different components. This includes the requirements of the role, expected sales numbers, and experience level when joining the organization.
The type of selling and the expected book of business are important factors when determining sales goals, metrics, and quotas. This then dictates the compensation structure. For example, a sales development rep (SDR) or business development rep (BDR) has a different type of quota than an account executive (AE). SDRs/BDRs generally focus more on inbound or outbound prospecting —not closing sales — which means that they measure metrics by actions. For example, the amount of meetings booked and the number of prospects converted into potential opportunities. These metrics can lead to bonus-based commission structures. That said since AEs focus on converting those prospects into clients, they typically base their metrics on generating revenue or profit for the company. These metrics can lead to commission percentages that are based on the actual revenue from the sale.
For many companies, it’s also important to note the differences in regions and territories of your sales reps. Location can affect the expected book of business and sales goals, which may help inform the type of commission structure that makes sense for a given role.
Similar to other positions, experience level can also determine the compensation structure for the employee. Depending on if the role is entry-level, mid-level, or executive-level can change the base salary to a commission structure. More responsibility and/or experience may mean a higher base salary which increases the overall OTE.
Why a Smart Compensation Structure is Important in a Sales Team
A thoughtful and effective compensation structure creates incentive and motivation for your team, while also providing achievable targets and quotas. A smart sales compensation plan will be competitive with the market. This means that you should review it consistently in order to stay in line with current trends. Your plan should also align with the company’s specific goals and sales team structure. Lastly, it’s important to remember that compensation is only one piece of the puzzle. Additional benefits like retirement packages, stock options, and quality healthcare are important to consider when creating a robust compensation package.
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