A salary of an employee generally has two components - fixed and variable compensation. Every month, an employee will receive a fixed comp as salary. Variable comp is given based on how they perform and is given at regular intervals (not necessarily monthly).
Your variable component will be defined in your offer letter. Some employees may have it and some may not.
Difference between fixed and variable compensation
Fixed and variable compensation ratio
The fixed compensation to variable compensation ratio refers to the proportion of an employee's pay that is fixed versus the proportion that is variable.
There is no one-size-fits-all ratio for fixed to variable compensation, as the appropriate ratio will depend on the specific needs and goals of the company and the employee. Some companies may have a higher ratio of fixed to variable compensation, while others may have a lower ratio.
Some factors that can influence the fixed-to-variable compensation ratio include:
- The type of work: For jobs that are more predictable and stable, a higher ratio of fixed-to-variable compensation may be appropriate (HR and customer success teams). For jobs that are more unpredictable or have a higher degree of risk, a lower ratio of fixed to variable compensation may be appropriate (Sales, pre-sales).
- Company's financial situation: A company with a more stable financial situation may be able to offer a higher ratio of fixed to variable compensation.
- Employee's preference: Some employees may prefer a higher ratio of fixed to variable compensation for the stability and predictability it provides, while others may prefer a lower ratio for the potential for additional pay based on their performance.
- High dependency employees: Employees who have direct impact on company's sales like a VP of sales, and Head of Product will have a higher variable component. Generally, their salary is high and company would want to retain them and have them work to their fullest potential.
Structure of fixed compensation
In a fixed compensation structure, the employee's pay is based on a set amount that does not change and is not tied to performance or the number of hours worked.
Elements are commonly in a fixed compensation structure:
A salary is a set amount of money that an employee is paid on a regular basis, typically on a monthly basis. This is also called basic salary. If you have more leaves than you can, you will lose an equivalent amount. For example, if you take 3 days of leave and you can only take 2 in a month, then you will lose a day’s salary from your basic salary.
Tax saving employee benefits are additional perks or advantages that an employee is entitled to as part of their employment in the organization. Benefits can also include offerings like group health insurance, retirement plans, group term life insurance, corporate wellness packages and paid time off. This is not given in terms of money.
Overall, a fixed compensation structure provides a predictable and stable income for an employee. It is common for employees who have a fixed compensation structure to receive a salary as well as benefits.
Read: Employee benefits in India
Structure of variable compensation
A variable compensation structure refers to the way in which an employee's pay is determined and paid out, with the amount of pay varying based on performance or other factors.
There are multiple elements that can be included in a variable compensation structure, including:
Bonuses are additional pay that is given to an employee based on their performance or the company's profits. For example, if a person achieves 100% of their goals for the month, they will get 100% of the bonus. The lesser they achieve, the lesser will be the bonus.
Suggested: Guide on effective performance management
Commission is a percentage of sales that is paid to an employee based on the products or services they sell. For example, let’s assume a company gives 10% commission to employees. If a salesperson closes 5 lac worth of deals for a company in a month then they will receive Rs. 50,000.
Profit-sharing is a portion of the company's profits that is distributed to employees.
Overall, a variable compensation structure provides the potential for additional pay based on the employee's performance or the company's profits. It is common for employees who have a variable compensation structure to receive bonuses, commission, or profit-sharing in addition to base pay or salary.
Fixed comp and variable comp example
- Basic Salary: INR 40,000 per month
- HRA (House Rent Allowance): INR 10,000 per month
- PF (Provident Fund) Contribution: INR 4,800 per month (12% of basic salary)
- Sales Commission: 2% of total sales revenue generated by the salesperson in a month
Assuming that the salesperson generates a total sales revenue of INR 20,00,000 (INR 2 million) in a month, their variable compensation would be INR 40,000 (2% of INR 20,00,000).
So, the total CTC for this salesperson would be:
- Fixed Compensation (Basic Salary + HRA + PF): INR 54,800 per month (INR 40,000 + INR 10,000 + INR 4,800)
- Variable Compensation (Sales Commission): INR 40,000 per month
- Total CTC: INR 94,800 per month (INR 54,800 + INR 40,000)
The employee get the fixed compensation every month. If the employee makes only 10,00,00 revenue in a particular month, then 2% of it is 20,000. The variable pay he will be receiving is 20,000 for that month. It will change based on how much revenue the employee makes.