Merit pay is a type of compensation an organization or a business provides to its employees as a reward for their high performance. It’s also sometimes called performance-based incentives. Merit pay is common in sales jobs, where performance is measured based on the number of sales a person makes. It is also found in education where a teacher can be considered a high achiever based on the students’ grades.
How does it work?
A company sets criteria to measure the performance of the employees, and a review of the performance takes place on a monthly or quarterly basis. The employees matching the requirements receive a small hike in their base salaries, usually about 3% in a year.
How is merit pay different from incentives and bonuses?
Merit pay is frequently added to an employee’s base salary, whereas a bonus is a temporary compensation. Incentives are also in place temporarily. When a person receives an incentive, there’s no guarantee that he will also get that incentive for the following year. But merit pay is a permanent salary boost.
Advantages of merit pay
- Motivates the employees: When the employees know they get monetary benefits for their performance, it’s likely to boost their motivation. This helps them remain energetic and continue to contribute to the company.
- Attracts the best talent: Having a reward system in place helps attract the best talents in the industry. It’s not only about the money, but highly talented people also like the challenges tied with monetary rewards.
- Promotes healthy competition: The merit pay system induces healthy competition among the employees, which is always good for any organization’s growth.
- Gives clarity about the company’s targets: Employees know what is expected of them as the best performance. They are aligned with the company’s goals.
- Employee retention: The merit pay not only attracts the best talent but is also beneficial to employee retention. In the long run, employee retention saves many resources for the company.
- Sets performance standards: Performance reviews for merit pay set a standard for employee performance, which urges the employees to thrive in their work.
Disadvantages of merit pay
- Might harm employee relationships: Sometimes, instead of creating healthy competition, the merit pay and the review process might create misunderstanding and disputes among employees.
- Threat to team spirit: Team members might become divisive instead of helping each other.
- Need for resources: If you’re a small business or relatively new in the industry, you might lack the resources for merit pay.
- Possibility of bias: Sometimes, ‘ high performance’ might be subjective. The employees might feel there is favoritism and bias from the manager.
Strategies for an effective merit pay program
Merit pay is helpful to boost the efficiency and productivity of the employees. Although there are a few disadvantages to this system, a proper strategy might help the company make use of it efficiently.
- Plan the budget and resources: Calculate how much you can invest in providing compensation to your employees. Discuss it with others in the company before launching the program.
- Set proper criteria of performance: Specific metrics for employee performance is crucial to avoid any misunderstandings inside the company.