Sales Compensation Plans, Templates, and Best Practices
Published: October 1, 2020
Table of Contents
1. What is Incentive Compensation Management?
2. Are Incentive Compensation and Sales Compensation the Same Thing?
3. Is Incentive Compensation a Bonus?
4. What is Management by Objectives (MBO)?
5. How to Find an Effective Pay Mix
6. How to Design an Incentive Compensation Plan
7. Incentive Compensation Plan Templates
8. Incentive Compensation Checklist
9. When Should You Use a Tiered Sales Compensation Structure?
10. What is Draw Against Commission and When Should it be Used?
11. Should Sales Compensation be Tailored to Different Roles?
12. Should Sales Compensation be Tailored to Different Roles?
13. Accounting for Sales Commissions and Understanding ASC 606
14. What are Common Sales Compensation Mistakes to Avoid?
15. How to Drive Revenue with Incentive Compensation Automation
16. Are There Good Industry Benchmarks for Incentive Compensation?
17. Incentive Compensation Software Solutions
18. View the Results of the 2019 Sales Compensation Best Practices Survey
Incentive compensation plays a critical role in driving sales behavior and overall performance. However, it’s not a one-size-fits-all strategy and requires a continuous, data-driven approach to effectively increase revenue and hit your organizational goals.
What is Incentive Compensation Management?
Sales incentive compensation is the money sales reps earn for a certain level of performance, typically in addition to their base salary. The structure of compensation can vary, but it is usually a commission or bonus paid out for every deal that closes. As a result, Incentive Compensation Management, or ICM, is the process of designing plans, administering the calculation and payout of variable pay, and making adjustments to improve sales motivation and performance.
Are Incentive Compensation and Sales Compensation the Same Thing?
In short, not exactly, but both center around sales rep pay. Incentives are a portion of sales compensation, which is the total combination of salary, commission, and other variable incentives to motivate sales reps. Incentive compensation, on the other hand, focuses only on the variable portions of pay (e.g., commissions, bonuses, etc.).
Is Incentive Compensation a Bonus?
There are two common types of incentives: bonuses and commissions. Bonuses are a fixed payment amount earned for achieving a specific objective, while commissions are variable payouts rewarding actions (e.g., earning 10% for every product sold). Both can be very effective in driving behaviors and improving performance.
The best time to use a bonus as part of your incentive compensation plan is when you are aiming to encourage your entire workforce, not just your sales team. Bonuses are effective to motivate your entire organization, increase engagement, improve productivity, encourage innovation, and more.
Bonuses are typically used for non-sales personnel as part of a Management By Objectives (MBO) plan, which we’ll cover in the next section.
What is Management by Objectives (MBO)?
Management by Objectives, or MBOs, is a type of performance-based bonus that an employee earns when completing specific individual goals aligned with overarching corporate initiatives. These performance objectives are a collaboration between an individual and their manager, making them unique to each employee. Therefore, MBOs can be highly effective tools for motivating and engaging team members.
Similar to MBOs, Objectives and Key Results (OKR) are another type of incentive compensation based on employee performance. The biggest differences between MBOs and OKRs is the way performance is measured and progress is reported.
When it comes to performance measurement, OKRs are always quantitative, while MBOs may include non-quantitative metrics. For example, completing a project launch by a specific date would most likely be classified as an MBO. Hitting a quarterly number of qualified sales leads or event registrations is more in line with an OKR. Finally, OKRs are also typically reviewed on a more frequent basis, often monthly or quarterly, whereas MBOs are usually assessed quarterly or annually.
How to Find an Effective Pay Mix
Pay mix is the ratio of base salary to variable incentives that a rep can earn based on their sales compensation plan. This compensation strategy works best when you need to incentivize by role and performance. For example, a 60/40 ratio means that 60% of the pay mix is fixed, guaranteed income and 40% is target incentive or variable earnings.
Ideally, pay mix should be tailored to the different roles on your team to reflect their different responsibilities. Typically, the more time a salesperson spends actively selling, the higher the ratio of variable incentive compensation they’ll be eligible for.
How to Design an Incentive Compensation Plan
- Gather the Right Planning Team
- Align Incentives with Company Goals
- Benchmark Against Industry Insights
- Focus on Simplicity
- Roll out Your Plan Strategically
- Continuously Analyze and Optimize
Building an incentive compensation plan requires a strategic approach. For many organizations, it can be a lengthy, time-consuming project to complete. But with the right tools, you can reduce the stress and time it takes to design, test, and implement a new sales compensation plan. Here are six steps to help you build and roll out your incentives successfully.
1. Gather the Right Planning Team
Sales compensation is the main driver of revenue in your organization. Therefore, its impact reaches far beyond the sales team. It’s important to involve key stakeholders in the incentive compensation planning process early on to ensure that everyone’s needs are met and focused on the same higher initiatives. Ideally, you should build a planning team that includes members from sales, sales operations, finance, compensation administration, legal, product, and marketing.
The goal here is to make sure your compensation plan works towards your collective goals and product roadmaps, but you also need to design incentives that you can reasonably measure, afford, and effectively drive sales behavior.
2. Align Incentives with Company Goals
As a motivation tool, incentive compensation has a large influence on sales behavior. The way you design your plan will communicate the most important priorities for reps and what actions are the most rewarding for them. Therefore, it’s extremely important to align each incentive with your overarching initiatives to ensure they only drive the behaviors that will help you reach your goals.
3. Benchmark Against Industry Insights
In addition to driving the right behaviors, it’s vital to offer competitive incentive compensation for your team—especially when one of the main reasons sales reps leave a company is for a better paying opportunity. However, it can be difficult to gauge your pay competitiveness without the right data access.
Benchmarking sales incentives against industry data is essential to design compensation plans that will attract and retain your top talent. A dataset like Xactly Benchmarking, with more than 15 years of data, is a helpful tool to compare incentives against thousands of plans and within your industry.
4. Focus on Simplicity
When it comes to incentive compensation, simplicity is key. The less complex your incentives are the stronger your plan will be. According to Xactly Insights data, the highest-performing incentive plans are clear, concise, and measure reps on no more than three components. Ultimately, simpler compensation plans are more effective because they are straightforward. That makes them easier for reps to understand and compensation teams to administer.
5. Roll out Your Plan Strategically
Plan rollout is equally as important as incentive design. It’s vital for your sales reps and compensation administration teams to fully understand the ins and outs of the plan. To ensure a smooth, effective incentive compensation plan implementation, here are a few best practices to follow:
- Get feedback from sales roles during the planning process
- Lock in buy-in and communicate the plan from top-down
- Have managers make time to meet with reps to discuss plans individually
- For any changes, focus on the benefits the new plan will offer reps
6. Continuously Analyze and Optimize
Traditionally, incentive compensation planning is an annual activity for organizations. Leaders roll out new plans at the start of a new year and file them away until it’s time to plan again. Today’s markets, however, don’t operate that smoothly or predictably. So it’s essential that companies consistently analyze incentive performance and adjust plans accordingly continuously throughout the year. This will ensure that you always have the strongest plan in place and can maintain high levels of performance.
Incentive Compensation Plan Templates
There are many different ways to design your plans, and it can be hard to know which is the best option for your company. Incentive compensation plan templates are a helpful foundation to build from and get your planning off on the right track.
First, you need to decide on the structure of your incentive plan. The most commonly used is a commission structure, where reps earn a percentage of revenue for every deal they close. Here are a few other compensation templates to consider (You can get more in-depth info and when to use each incentive template here):
- Matrix Rate Commissions: In this compensation template, commission rates change based on achievement and are segmented by additional filter criteria.
- Flat Rate Commissions: This is the most simple incentive structure. Reps earn a flat percentage for every deal they close.
- Accelerated Rate Tiers by Attainment: In a tiered structure, pay rates change based on quota attainment or the amount sold.
- Accelerators with Multipliers: Commission rates in this compensation model change based on achievement and are multiplied by additional filter criteria.
It’s also important to consider the different roles across your sales team. Each job’s responsibilities are different, so cookie-cutter incentive compensation isn’t necessarily the best approach. Rather, incentive plans should be tailored to different positions and reflect the role’s core functions. Here are some examples of commission plan templates for different roles.
Incentive Compensation Checklist
The most effective sales organizations think about planning, design, administration, and reporting holistically. And the strongest incentive compensation is both strategic and efficient. During the planning phase, using an incentive compensation checklist can help you assess the strengths and weaknesses of your plans and overall sales processes.
When Should You Use a Tiered Sales Compensation Structure?
Tiered commission structures are a common type of incentive compensation. In this highly-effective model, sales reps earn higher compensation the more they sell. Initially, reps earn a flat commission rate until they reach a set goal (e.g., number of units sold, amount of revenue, etc.). When they reach that threshold, their commission rate increases until they reach the next tier of compensation whereat their incentives increase again.
Tiered sales compensation structures work well to motivate reps to overperform or when performance levels off after quota is met. For example, a simple tiered commission structure would have three tiers:
- A flat rate before quota is met
- An increased rate when quota is hit
- A final rate for overperformance (e.g., 200% of quota)
What is Draw Against Commission and When Should it be Used?
A draw against commission is another commonly used type of sales incentive compensation. Draws are a guaranteed amount paid with every paycheck and operate as a sort of “commission cash advance” for sales reps, which they may or may not be required to pay back to the company (learn more about non-recoverable draws here).
For example, let’s say you decide on a $1,000 recoverable draw. This means reps will be paid $1,000 in each paycheck, regardless of their total sales. However, because this is a recoverable draw, reps will be required to pay it back. So here’s how this would operate in practice: A rep receives the $1,000 draw. The next month, the reps closes $2,500 in revenue. Once the $1,000 has been recovered, the rep would then receive a $1,500 commission check in the next period.
Draws are most commonly used to help newly hired reps maintain income as they ramp to full capacity. They are also effective during times of economic uncertainty when sales may drop and income may be more volatile.
Should Sales Compensation be Tailored to Different Roles?
The most effective sales compensation plans are tailored to different roles. Typically, this is reflected in pay mix for each role. For example, consider the difference between sales managers and their reporting reps.
Reps should be spending the majority of their time making calls and actively selling. Managers, on the other hand, have coaching and administrative responsibilities in addition to helping move deals. It wouldn’t make sense to give these two roles the same quota and sales compensation plan.
Ultimately, positions with more time dedicated to selling will have a higher variable income than managers, and their incentives will be focused on the role they play in closing a deal. That way, you ensure each person on your team is being measured on actions they truly have an impact on.
How to Build Sales Compensation Plans for Recurring Revenue
Subscription models have traditionally been ubiquitous with SaaS/Cloud companies. But they are becoming more common in other industries as digital adoption expands and companies transition to recurring revenue models. As a result, it can be challenging to build compensation plans that effectively motivate and maintain low financial risk.
There are several factors to consider when building sales compensation plans for recurring revenue. The first step is to try and separate the sales deals based on their pay risk/level of uncertainty. If only larger deals have uncertainty about the final deal size, then a different payout mechanism and timing Should be created for those. If you can’t currently gauge the revenue of deals accurately, you can do one of the following:
- Pay a certain portion up-front and the remaining portion a few weeks/months later when revenue certainty has increased
- Pay the full amount upfront at a base rate (i.e., no acceleration from over-performance) and reconcile at the end of the plan period for all sales adjustments (not just on a single deal) and acceleration.
In addition, it may be helpful to engage in a compensation workshop to have a full expert analysis of your incentive plan. The Xactly Strategic Services team helps hundreds of enterprises each year optimize their plans and build stronger incentives. Learn more about these offerings here.
Accounting for Sales Commissions and Understanding ASC 606
The revenue recognition principle ASC 606 went into effect in 2018. Under this accounting standard, also known as commission expense accounting, enterprises are required to track commission expenses at a more granular level and produce an audit trail that demonstrates:
- The term of the contract and how any commissions paid in the customer relationship benefits your company as the seller
- The right amount of time over which to amortize the expense
- The impact of all commissions paid
ASC 606 entails a matching principle, under which companies must expense commissions in the same period they were incurred. That means if an organization has to hold off on booking revenue from a closed deal, then they also need to postpone booking the expenses.
Managing commission expense accounting requires a granular level of detail to establish the necessary audit trail. For many companies, this data is not readily available in manual ERP systems or spreadsheets. Digital solutions like Xactly Commission Expense Accounting (CEA) can sync with your existing CRMs and incentive compensation management tools to automate this process, ensure accuracy, and reduce the time spent on creating manual adjusting entries.
What are Common Sales Compensation Mistakes to Avoid?
Getting compensation right is critical to the success of an organization. But in the face of fast-moving markets and unexpected changes, companies can fall victim to common sales compensation mistakes that initially may not seem harmful but are hindering the growth and performance of your sales team. Here are six you should avoid:
- Recycling the Same Plan Over and Over: Using data to drive strategic planning, you can evaluate your plans in-depth, take the strongest parts, and create even more effective incentives.
- Failing to Benchmark Against Industry Data: Benchmarking against industry data allows you to further optimize your incentive compensation so you can attract and retain top performers.
- Driving the Wrong Sales Behaviors: Again, data-driven planning can ensure that you are creating incentives that engage reps and drive only the behaviors that will help you reach your organizational goals.
- Over-complicating Commission Plans: Keeping incentives simple and concise ensures reps have a clear understanding of their expectations and compensation can be accurately administered. (Remember, according to Xactly Insights, it is best practice to have no more than three plan components).
- Creating "Cookie Cutter" Incentives: As we mentioned earlier, you can’t expect every single role on your team to hit the same quota when their jobs are different. It’s crucial to tailor incentives to each position’s responsibilities.
- Using Manual Planning Processes: Spreadsheets are messy, and Xactly data shows that 80% of them contain errors. Not to mention they don’t scale easily. Automating your processes with Sales Performance Management (SPM) not only makes your team more efficient—but it also opens up the door to incentive optimization and more strategic planning.
How to Drive Revenue with Incentive Compensation Automation
When you automate your sales compensation, you create a system that eliminates inconsistencies (e.g., over-/under-payments, inaccuracies, payment disputes) and allows you to place an emphasis on strategy, rather than the technical aspects of incentive administration. That means you know reps are being paid accurately and on time, so you can shift your focus how can we more effectively use incentives and build stronger plans to drive more revenue.
There are four main ways automation helps increase the ROI of your incentive compensation and helps you drive more revenue:
- Increased efficiency: Enterprises who automate compensation processes reduce payout and incentive administration time up to 60%
- Improved Payout Accuracy and Timeliness: Accurate, timely incentive payouts build trust among the sales and compensation teams. This frees us time for comp administrators to improve strategy and for sellers to focus more on priority deals.
- Boosted Sales Productivity: Companies see a 50% reduction in the number of returned or disputed compensation plans, so reps spend more time selling instead of recalculating their commission payouts.
- Real-time Data Insights: Automation provides accurate, up-to-date views of compensation for every person on your team. When you add in artificial intelligence, like with Xactly Benchmarking, you can benchmark incentives against industry data and make even more strategic planning decisions.
Are There Good Industry Benchmarks for Incentive Compensation?
In order to effectively engage and motivate your sales team, you need to know you’re paying competitively and if your incentives are driving the right behaviors. That’s where benchmarking comes in. You need to understand how your teams are performing internally, but you also need to know where you stand compared to industry pay averages.
Adding in third-party data can help enhance your sales compensation planning even more. Xactly Benchmarking, for example, is a rich database with more than 15 years of industry pay and performance insights. Using this data, you can compare your incentive plans against different industry benchmarks and use it to design stronger plans for your team.
Incentive Compensation Software Solutions
When it comes to incentive compensation software solutions, it can be difficult to know where to get started. There are various vendors to consider, different features to prioritize, and the need to align decision-makers across multiple departments in order to come to a conclusion.
For most organizations, investing in ICM is a cross-functional endeavor, and there are several stakeholders that will need to be involved. The first step is to assemble that team and decide what everyone’s needs and goals are. You may even consider building an in-house system or buying a solution designed for Incentive Compensation Management (ICM).
Perhaps the most important and sometimes difficult part of the process is selecting the right vendor. You need to focus on finding a partner rather than a vendor in this situation to ensure you have a solid relationship and the support you need to embark on your ICM journey. Ultimately, you want to find a solution that increases your compensations accuracy and timeliness, maximizes efficiencies, and allows you to continuously optimize and improve your incentive plans, rather than just automating processes.
View the Results of the 2019 Sales Compensation Best Practices Survey
Sales incentive management is not an easy task. So it’s no wonder that 83% of companies report compensation payment inaccuracies. It requires in-depth knowledge, expertise, and strategic insights to get right. An ICM solution can help make this process easier and more efficient—but it is also important to consider sales compensation best practices as a part of your planning and administration processes.
Discover the latest research and how ICM helps you implement them more effectively in the 2019 Sales Compensation Administration Best Practices Survey.