Competency Based Pay

What is competency-based pay?

Competency-based pay is a compensation structure that pays employees based on their skills, competencies, and knowledge rather than on the qualifications or job role in the company. This kind of pay structure depends on the performance of the employee and the achieved results.

The traditional pay method concentrates on tasks and roles completed in a job, or what the job-holder possesses, rather than highlighting the individual’s skills and potential growth.

On the contrary, competency-based pay acknowledges and rewards employees based on their abilities and how effectively they demonstrate these skills. It also values the work process, considering the results achieved and how those results were obtained.

Definition of competency-based pay

Brown and Armstrong (1999) define it as “Competency-based pay can be defined as paying for the development and application of essential skills, behaviors, and actions that support high levels of individual, team, and organizational performance.”

What are the main elements of competency-based pay?

elements of competency-based pay

There are 3 main elements of competency-based pay. They are described below.

Showcasing Skills for Pay

In competency-based pay, employees earn rewards by proving they have the necessary skills. But in traditional job pay, people get paid based on their job title, even if they aren’t very good at it.

Certification for Competency

With competency-based pay, there’s a formal test to check if employees have the skills needed. They might get a certificate. In regular job pay, no certification is needed – just having the job means you get paid, and the pay changes only when you change jobs.

More Earning Opportunities

Competency-based pay plans offer greater pay opportunities than job-based pay plans. While not all employees may choose to pursue these opportunities, they are available for those who wish to enhance their skills and earn higher rewards.

Four types of pay for competency

types of competency-based pay

Each of them has been explained in the table below with respect to various aspects.

Sl. No.TypeFocusEmployee GroupsCharacteristicsChallenges
1Career DepthSpecialized expertiseSpecialized roles– Long-term demand

– Multi-year training 

– Expensive to replace talent.

– Obsolescence of skills.

– Rapid changes in required expertise.

– Poor infrastructure support.

2Classic Skill-Based PayBreadth of skills.Versatile roles, high involvement, lean organization designs– Emphasizes technical skill development.

– Integrated with training programs, job rotations, & certifications.

– Significant design and development time required.

– Rapid changes in technology.

– Poor infrastructure support, especially without job rotation and recertification policies.

3Merit PayWide range of skillsProfessional and managerial roles– Reinforces strategic corporate directions.

– Competencies relevant to organizational performance.

– Requires a focused and well-communicated competency system.

– Lack of focus on competencies. 

– Appraisal complexity, vague competencies leading to ineffectiveness.

4Bonus PlansSkill depthVarious roles, including specialized talents– Versatile and adaptable.

– Payments do not affect base pay.

– Can change frequently based on immediate talent needs.

– Need for clear design and communication for credibility.

– Poorly implemented plans might seem arbitrary or capricious.

Competency-based pay vs skill-based pay

Competency-based pay focuses on an employee’s overall qualities like communication and leadership. Skill-based pay, on the other hand, concentrates on specific job-related skills and knowledge.

So, competency-based pay looks at broader abilities, while skill-based pay is more specific, focusing on job-related skills.

Here’s a brief comparison table:

AspectCompetency-Based PaySkill-Based Pay
FocusEmployee behaviors, attributes, and competenciesSpecific technical skills and knowledge
EvaluationOverall competency levels demonstrated by the employeeMastery of specific job-related skills
Reward BasisGeneral competencies applicable to various rolesAcquired technical skills and certifications
EncouragesWell-rounded employee developmentSpecialization and continuous skill acquisition
ExamplesLeadership, communication, teamworkProgramming languages, certifications, specialized training

Competency-based pay vs. Traditional pay plans

Competency-based pay remunerates employees based on skills, knowledge, and abilities. In contrast, in traditional pay plans, compensation is determined by job title, seniority, or fixed salary scales.

Pay based on competency directly reflects the expertise and contributions of each employee, promoting a workforce that is highly skilled and motivated. The traditional pay structure may not make employees feel as incentivized to enhance their expertise or contribute beyond the basic requirements of their roles.

AspectCompetency-Based PayTraditional Pay Plans
Basis for PaySkills, knowledge, and abilities of employeesJob title, seniority, predetermined scales
FocusIndividual competencies and skill developmentJob hierarchy, tenure-based progression
FlexibilityHighly flexible, & adaptable to changing rolesLess flexible, often rigid structures
IncentivesPromotes continuous learning and skill growthLimited incentive for skill enhancement
RecognitionRewards for individual contributions and expertiseMay not always recognize individual talents
MotivationEncourages employees to acquire new skillsMay not drive skill development or innovation

What are the advantages and disadvantages of competency-based pay?

The advantages and disadvantages of competency-based pay are as follows.


1. Aligns with Business Strategy: Competency-based pay supports company goals by focusing on how well employees perform, giving the business a competitive edge.

2. Promotes People Development: It motivates employees to develop skills, especially in flexible roles, by offering rewards for continuous learning and improvement.

3. Serves as a Replacement for Traditional Systems: It can replace traditional methods that don’t work well in certain situations, providing a more effective way to recognize and reward employee performance.

4. Facilitates Organizational Change: It helps organizations adapt and change, allowing for shifts in structure or culture as the company evolves, ensuring the workforce stays aligned with the company’s needs.


1. Poses Implementation Challenges

Implementing competency-based pay can be time-consuming and costly, as highlighted in surveys, making it a challenging process for businesses.

2. Difficulties in Objective Measurement

The objective assessment of competencies is complex, leading to challenges for managers in evaluating a wide range of skills. Many employers struggle with accurate competency assessment.

3. Lacks Clarity in Linkage

When competencies are connected to other reward methods, the connection with pay can become unclear, diminishing the motivational impact of this pay. This can happen due to a lack of a clear line between performance evaluation and reward.

4. Potential Pay Issues

If not carefully managed, it may result in pay increases without genuine performance improvement, especially with unclear grading systems or gradual progression approaches.

Frequently asked questions

1. What are the common components of Competency-Based Pay?

The most common components of competency-based pay are knowledge and skills. It focuses on how much knowledge an employee has absorbed during his/her career and the skills that apply to the given knowledge.

2. Is Competency-Based Pay suitable for all types of organizations?

Competency-based pay’s suitability varies by organization. It works well for dynamic, innovative workplaces but may not fit structured or traditional settings, depending on specific needs and objectives. The suitability of such kind of pay structure varies based on the nature and goals of each organization.

3. What are the challenges of implementing Competency-Based Pay?

The challenges of implementing competency-based pay are:

  • Defining job competencies requires objective evaluation of skills.
  • Fair and unbiased competency assessments are challenging.
  • Subjectivity arises from managers’ opinions in evaluating competencies.
  • Competency-based systems demand additional administration and continuous monitoring.

4. What are the future trends in Competency-Based Pay?

Future trends in Competency-Based Pay include personalized approaches for tailored pay structures and integrating technology for streamlined assessments. It will emphasize both soft skills and technical competencies, data-driven decision-making, encouraging continuous learning incentives, and ensuring inclusivity and diversity within competency frameworks.


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