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Demystifying the Sales Compensation Plan: What business owners need to know

Salespeople are a unique breed of employee. They go by many names – hired guns, sellers, closers, rainmakers, lone wolves, and more commonly: account executives (AEs). They also come with their own perceived characteristics – that they can be alpha, persuasive, pushy, demanding, flamboyant, chatty, and extroverted. One thing that’s different about salespeople – aside from those archetypal characteristics – is that they’re often compensated and incentivized differently than other employees within an organization. Salespeople earn pay around their deal flow and the sales that they close. Their compensation plan essentially says: close more deals, get more money. Don’t close deals, and the salesperson may be looking for job opportunities elsewhere.  

Compensation Plans in general

(First, review the difference between hiring employees and independent contractors.) In conjunction with the above payment strategy is something called a compensation (comp) plan or commission plan. The comp plan outlines everything related to the sellers activities and payments. A compensation plan’s ultimate goal is getting the salesperson and the company on the same page.  Comp plans come in all shapes and sizes. In fact, some states require a commission structure in writing.

We’ve provided some information below that you can use and think about when putting together a simple comp plan for your salespeople. As organizations get larger, and as their sales organizations become more complex, they begin to dedicate more resources to sales compensation planning, tracking, and communication. An organization with a larger sales team may use dedicated sales compensation platforms like Performio or Varicent. Some even have HR business partners, attorneys, or sales trainers dedicated to supporting the company’s sales team.  

Here are some things to think about of when putting a comp plan into place:

1. Defining the metrics in a compensation plan

Explaining goals or quotas to an employee is one of the most important things to address. First and foremost, figure out what you are trying to measure. If it’s a sale, you’ll need to determine on what you’re basing the commission (e.g. gross amount vs. net amount). And whether it is a percentage of the sale or a flat dollar amount. In order to provide added clarity, many comp plans provide examples or illustrations of what the metrics are. They show what bonuses or commissions look like in relation to those metrics. You want to avoid a scenario where an employee believes that they earned X and the company believes the employee earned Y. 

2. Term or timeline?

You’ll want to include the timeline that the plan applies to. Is this a monthly compensation plan? A quarterly, semi-annual, or annual (or maybe some other term that applies to your fiscal year or your budgeting process)? Spelling out the period which the compensation plan covers is important. Depending on what the term of the plan is, you may want to create a new plan each period. Or you may want to keep one plan in place and note that it only changes when the company says it changes. The former can create a larger time and labor burden on the company. But it does a better job of keeping things fresh and current with the employee. 

3. One-time or ongoing?

Is the commission a one time payment for achieving a metric or milestone? Or is it an ongoing payment that pays the employee every time something happens? Bonuses tend occur around events happening, for example, an achieved metric or milestone. They also tend to be more of a one-time payment around a specific scenario. Commissions tend to be ongoing “opportunities” and are based on sales achievements like a deal or sale closing.  

4. Exclusions and modifications

Is there anything that could happen that would prevent an employee from receiving their commission or bonus? What if the client never pays the company? Of what if the client is dissatisfied and asks for a credit, refund, or discount? What if the client cancels at the last minute, or even after the company has started working on the deal? This area may even tie into the terms of the sales or service agreement that the company uses with their customer or client.  

5. Payment

It’s important to note when employees will be paid their bonus or commission. Will they be paid in a normal pay cycle or out of cycle?  Will they be paid once a contract is signed or will they be paid once payment is made? Is the payment lumped into a regular paycheck or will it be processed as a separate check? We recommend you provide some sort of “receipt” to the employee to show the gross amount earned, the payment made, and what deals those earnings were connected to. This will help to prevent questions and issues down the road. 

6.  Taxes and compensation plan

Bonuses and commissions are taxed differently than regular income. You may want to note this in bold and in big letters in the comp plan. One of the most common questions that HR and payroll providers get is about comp and taxes. Especially from bonus and commission-eligible employees who want to know why their payment(s) were taxed a certain way. Payroll companies typically have bonus and commission rates baked into their system (based on IRS guidance). So, you may want to mention to employees that if they want to adjust their bonus or commission withholdings, they need to complete a W4 or state equivalent form before a specific date. 

7. Termination

Think about what happens if you terminate a sales person. Are you paying them for deals that they closed (but the new client hasn’t paid yet) upon termination? Are you paying them for these deals post-termination (e.g. for commission trails)? Some states like California consider commission payments a form of wages and have strict laws related to payment of final wages and wage theft. 

8. Miscellaneous compensation plan ideas

When drafting a compensation plan for an employee or employees, you may want to reference any prior documentation that has been put into effect. For example, if the new compensation plan replaces a previous compensation plan or document, that should be noted somewhere in the comp plan. You should also reinforce the “at will” nature of the employment (assuming “at will” is the case). Providing HR/payroll contact information in the plan can be helpful. This way, the employee knows who to go to if they have any questions. You may also want to note that the numbers and dates in the plan are for informational purposes. Just because you display a projection for Q4 does not guarantee that the employee will be in the same role (or even employed) in Q4. 

What to do next

Anyone running into issues or problems with compensation planning should speak to a professional. When coming up with compensation plans, it’s smart to use the “It takes a village” approach. Working with a finance professional on projections and calculation, an HR/payroll professional on communication and education, a sales consultant for industry trends and benchmarks, and an attorney for compliance and language can take your comp plan to the next level. And without a solid comp plan, you run the risk of adding unnecessary complexity into your business operations. Issues like lawsuits, employee confusion, low morale, and increased turnover can all surface if you avoid putting a good comp plan into place. 

Michael Cohen is the Founder and CEO of Suitless Inc. He helps entrepreneurs and business leaders tackle the complexities that come with growing a company. Michael previously worked for SB Nation, Vox Media, MicroStrategy and the Consumer Technology Association.  Michael can be reached at michael@getsuitless.com 

Will Fuentes is a co-founder of Maestro Group. Will empowers sales teams to maximize their potential. He focuses on teaching both hard and soft sales skills and identifies opportunities to improve sales efficiencies. His unique background and perspective guide his training principles, and he is motivated to help individuals and organizations sell more, faster.  Will can be reached at will@maestrogroup.co

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