There are a few domains that are as dynamic and challenging as sales. The performance of sales reps can mean the difference between being a market leader in the industry or the bottom feeder with diminishing sales. Being the second-most-in-demand job, there’s an abundance of sales reps in the job market. However, finding a top performer is hard, and it’s harder to retain one with the ever-increasing competition for the talented. In any sales environment, the primary driver of motivation and right sales behaviors is compensation. It’s essential that companies implement the right sales compensation plans to drive employee satisfaction and engagement.
What are Sales Compensation Plans?
Sales compensation is how much money a sales representative is paid in a year. It includes components such as a base salary, commissions, and incentives to motivate the reps to meet or exceed their sales quotas.
A sales compensation plan outlines the structure that defines how the sales rep will be compensated based on their performance. The plan includes full details about compensation for sales reps, such as the base salary, bonuses, commissions, and benefits.
Before looking into the different sales compensation plan examples, it’s important to understand some of the basic concepts involved in structuring the plans:
1. Sales Quotas
Sales quotas are a set number of revenue targets that applies to individual or group of sales reps. Quotas are typically time-bound such as monthly, quarterly or annually. The quotas are the minimum sales the reps must close before they become eligible for commissions. For example, if the reps have a quota of 50 sales per month, they start earning commissions after the 50sale is reached.
2. On-Target Earnings
The on-target earnings (OTEs) are the sum of the base salary and incentives the sales reps would earn upon meeting their quotas or targets. It gives a realistic view of the total compensation for the sales reps for the year.
3. Pay Mix
Pay mix is the ratio of base salary to the variable pay or commissions that a sales rep earns. The ratio gives a quick view of the compensation split, so the reps know what they will earn on each plan. For example, if the pay mix is 60:40, it means that 60% of their OTE is the base salary, and 40% would be their commissions. The pay mix can vary depending on the organization and the products being sold.
4. Sales Accelerators
Sales accelerators are an extra boost to incentives once the sales reps cross their OTEs. That means their commission rates go higher when they exceed their quotas or targets. For example, if the OTEs of the sales rep is USD $80,000 for the year with a quota of USD $100,000, their commission might be 10%. Once the sales accelerator kicks in upon exceeding the quota, their commission might be set at 20% or higher.
5. Sales Decelerator
Sales decelerators are meant to penalize underperforming reps. They often kick in around 40% to 60% of the rep’s quota. For example, if the commission is 10% when their reach their quota, a 5% decelerator can be implemented to reduce the commission if they fail to meet their quota.
Clawbacks are frequently used in service-based companies and happen when a customer churns (stops using the product or service). For example, if the subscription target is set at 4 months, the sales rep would lose their commissions if the customer churns within that time. Clawbacks encourage sales reps to follow high-quality leads.
7. Sales Performance Incentive Funds (SPIFs)
Also called sales contests, SPIFs are designed to incentivize high performance in the sales teams. Sales contests are held on a monthly basis for a short period with rewards such as a one-time cash prize or non-monetary rewards such as team dinners or outings.
Why are Sales Compensation Plans Important?
Being a sales representative is an incredibly demanding job. Robust compensation plans are keep the reps motivated and engaged as the role has one of the highest churn rates in the industry with 61% of the reps feeling under-appreciated.
A well-designed compensation plan sets fair standards and drives healthy competition among the teams to perform better. The strongest impact a good compensation plan has is to reward the sales reps fairly and make them feel valued. Surveys show that 91% of sales reps take pride in their jobs, and one of the biggest factors that contribute to it is compensation.
Sales compensation plans also have other benefits such as:
- Supporting the recruitment strategy through attractive compensation and incentive programs.
- Increases employee satisfaction by providing compensation that matches the skill.
- Helps in financial planning by projecting payroll budget.
- Establishes a basis for key performance indicators (KPI) to track the compensation’s effectiveness.
How to Create a Sales Compensation Plans?
Your sales staff doesn't really care about technical terms. You know "incentives" and "commissions". They want money. So, it's up to you to sell your managers on sales commission plans that actually motivate top performers. There are a number of steps involved in building and fine tuning an effective sales compensation plan. So here they are:
1. Setting payment targets
The first step to compensation planning is to look at what the market is paying. The payment target needs to stay around the market’s median income to be competitive. Although it may vary by geographic location, it acts as the foundation of the compensation structure, therefore must be chosen carefully. Researching platforms such as LinkedIn and Glassdoor is a good place to figure out the average pay for the reps in the industry. The pay should also take commissions into account to come up with a base for the compensation plan.
2. Decide on the regime of the compensation plans
Whether it is direct pay or base salary with commission, it is important to choose a clear regime for payouts or risk losing the top performers. The compensation plan should fit the roles and the expected results from the sales team. For example, sales reps who are in charge of closing deals would appreciate a base pay with commissions while sales managers would prefer a larger chunk of base salary with sales commissions or a significantly larger straight pay according to their responsibility.
3. Include every member
To keep the sales reps motivated while promoting equality, all the salespeople must be enrolled in the sales commission plan system. Explain how the incentive structure works and when the commissions are issued. The commission plan template can then be determined by rank, predicted objectives, sales influence and achieved milestones.
4. Establish measurement metrics
Compensation programs must be measurable to gauge its effectiveness as each plan has its own incentives built into it. The key performance indicators (KPI) therefore should be based on matching the sales by the reps and the reward package. Employ KPIs such as:
- Rate of increase in sales
- Profit margin
- Market penetration
- Sales closed by rep
- Rates of onboarding and demo calls
- Leads time for prospecting and conversion, etc.
- Prospects with sales potential
- Deals gained vs. deals lost by potential customers
5. Assign targets and quotas
Just before taking action the expectation for teams and individual reps need to be set in the form of quotas, targets and benchmarks. The expectation clarifies what each rep needs to do and how they are paid for it. Once the targets and quotas are established it becomes possible to assign and track each sales rep against the established key objectives.
Different Types of Sales Compensation Plans
Employees in sales can get paid in different ways, such as hourly wages, salary, commissions, and bonuses. The sales compensation plan effectiveness can be gauged by the sales rep's engagement and their performance in terms of meeting or exceeding their quotas. Different companies tailor their commission plans according to their industry and how their business is conducted. The following examples reflect typical sales compensation plans across different industries:
1. Salary-only compensation
With the salary-only compensations model, sales reps are paid an annual salary without commissions or incentives based on their performance. The all-inclusive compensation will be agreed upon with the rep ahead of time without variables. The main benefit for the company with this model is the simpler management of finances. The method also benefits underperforming sales reps as they will be compensated even when sales quotas aren’t met. The drawbacks with the model are plenty, as it takes away the drive for competitiveness and incentive, which encourages sales reps to perform at their peak. The star performers feel unenthusiastic about being in the same league as reps who slack once their quota is met.
The salary-only compensation can be used across multiple industries from manufacturing to retail.
2. Base salary plus bonus
To overcome the lack of enthusiasm among sales reps with the salary-only plan, a bonus can be added for motivation. Generally agreed upon with the reps beforehand, the bonuses are earned when his hit specific targets.
For example, the sales rep is paid a USD$50,000 base salary and a USD$2000 bonus for exceeding quotas such as the sale of 50 products.
Base salary plus bonus is used by businesses such as retail and merchant services. For example, the lease commissions for merchant services can range from $125 - $450. For every activation the reps are paid $200 one-time bonus plus 3-% monthly residual.
3. Base salary plus commission
The base salary plus commission is the most common plan used and constitutes close to 48.8% of the sales model used by companies. The compensation can be divided into a fixed base salary and variable compensation. The pay mix is typically about 60:40 on an average across most industries or a less aggressive 70:30 if the product being sold is technical and the reps need to educate the customers.
To illustrate how this model works, consider a sales rep earning a base salary of US$ 50,000 with a 10% commission rate once the sales exceed USD$20,000. If the sales rep is able to sell products up to USD$500,000 in value, they are eligible for a commission on USD$480,000, which is USD$48,000. Therefore their total compensation would be USD$98,000.
Because of its potential to motivate the star sellers of the teams, the base salary plus commission plan is used by many industries. The Brigade Group, for example, calculates an average base salary of USD$79,000 with an OTE of USD$158,000 for SaaS account executives. The compensation plan is also used in industries such as Edtech, financial services, retail outlets and many more small to medium businesses.
4. Commission only as compensation
With a commission-only plan, the sales reps aren’t paid a base salary; instead, their commissions are based on the sales they make. The commission rates are typically higher in these plans as there is no base salary.
For example, if a sales rep closes sales worth USD$500,000 at a 10% commission rate, the rep would earn USD$50,000. However, if they don’t make any sales for the month or quarter, their earnings will also be zero. Sales-only compensation has a few drawbacks, such as the sales reps concentrating on high-volume, low-value sales and attracting top talent to the sales teams because of the unpredictable income.
A fine example for the plan is the real estate industry where the brokers and sales reps make commissions on the total value of the property. As of 2022, the total gross commissions in the real estate industry hovers around 4.94%. Commission only compensation is also used in industries such as real estate, fast-growing startups, products with well-defined sales cycles, non-customizable products, etc.
5. Gross margin based commission
While it’s important to motivate salespeople to score higher targets, it’s also essential that the company reaches its revenue goals. Sometimes sales reps end up focusing on low-value products that are easier to sell to meet their quotas. Excessive discounts are also a way taken by sales reps to close higher numbers and earn more. The gross margin or profit-based commission model can then be implemented to curb the issue. Changing the focus from higher quotas to higher profits drives the right sales behaviors and has a positive effect on the company’s bottom line.
For example, if the profit from total sales for the month is USD$100,000 and the commission rate is at 20%, the sales rep will earn USD$20,000.
Key takeaways of the gross margin based commissions:
- The method is not suited for all products and should only be used for the sales of specific high-value products.
- The method works well when revenue is the top priority and not the market share.
- Sales reps should have the power to control the pricing of the products, set discounts, or sell multiple products at different prices.
- Gross margin tracking is essential as factors such as shifting products, distribution costs, territory changes, and rebates can complicate calculations.
Car dealerships work on gross margin based commissions and the sales reps typically earn 20%-30% of the profit. The plan can also be used in businesses such as car or hardware dealerships, wholesale distributors for SAAS or software services and B2B partner agencies.
6. Absolute commission
Under an absolute commission plan, the sales reps earn commissions at a set rate once they reach their targets.
For example, reps could get a commission of USD$100 for every product sold, or $1000 for every new customer, or 10% of the upselling and cross-selling revenue. The advantage of the method is that different commissions can be set on different products to encourage reps to focus on specific products. They are also more motivated to sell as each deal adds to their total commission. However, there are downsides to it, such as sporadic and seasonal sales, which can disrupt budgeting, and uneven distribution of territory among reps that can lead to dissatisfaction.
Absolute commission works well in industries with established products and upgrades such as medical devices, home appliances, agricultural appliances and other hardware. The percentage commissions on the products can vary from 1-10% or higher if the sales are off season.
7. Relative Commission
Relative commission plans have predetermined quotas that determine the commissions the reps will earn. Quotas can either be based on revenue or volume of sales. The plans can be used to encourage sales reps to go after higher-value products.
For example, if the base salary of the sales rep is USD$50,000 and their quota is $500,000, their commission could be set at 10% below quota and 20% above. If they make a sale of USD$1 million, they earn USD$50,000 in below quota commissions and USD$100,000 above quota. Their total compensation would then become USD$210,000 for the year.
Relative commissions are used by companies with well established products that can afford higher commissions. Examples include manufacturing, wholesale, technical and scientific products. The commission rate can vary from 7-15%.
8. Straight-line commission
The straight-line commission plan is one of the most satisfying plans for sales reps of all performance levels. The commission is based on their relative performance to their sales quotas.
For example, if the sales rep reaches 60% of their quota, they will be rewarded 60% of their commissions. Likewise, a sales rep making 180% of the sales quota will receive 180% of commissions. The benefit is that there is no penalty, and sales reps won’t get discouraged because of a bad month as they get compensated in proportion to their performance. While the star performers are highly motivated by it, the low and mid performers might become satisfied with reaching only 70% or 80% of their quotas.
Straight line commission plans work well in companies with shorter sales cycles or when the sales reps have a chance to make large commissions.
9. Draw against commission
A draw-against commission plan is similar to a salary schedule as the commissions are paid in advance. The sales rep then will have to earn back the advanced payment to make up for it. There are two main types of draw-against commissions:
- Recoverable draws: These payouts are similar to loans that the reps are expected to recover during the period. For example, if the sales rep draws USD$5,000 per month, they are expected to earn a minimum of USD$5,000 a month to make up for the loan. If they are unable to recover fully, the remainder amount rolls over to the next month.
- Nonrecoverable draws: The nonrecoverable draws are payouts that are not expected to be gained back. These are usually offered to sales reps in training as they are not expected to close as many deals in the beginning.
Draw commission plans are suitable for reps and teams who are new to sales. The pressure of sales acts as a good primer for the newcomers in the roles. The plans are also effective for off-season products with sales periods that are uncertain.
10. Territory volume commission
Territory volume compensation plans are used when working with teams of sales reps who are engaged with a defined territory. The compensation is agreed upon on monthly or quarterly basis, and once the period is complete the total commission is split between the reps in the sales team.
For example, if the total sales over the period is USD$5 million with a 10% commission sales, the total territory commission would be USD$500,000. If the number of sales reps for the territory is 5, each rep receives a commission of USD$100,000. If each rep has a base salary of USD $50,000 then their total compensation would be USD$150,000.
Territory volume commissions are useful for businesses looking to scale in new geographical locations such as cable internet services, pest control and solar roofing services. Any business that is team-oriented can do well with this plan.
Compensation is the primary motivator of the right sales behaviors in sales reps. To keep them engaged, it is vital to apply the appropriate sales compensation strategy to reward the reps fairly. To increase the sales compensation plan effectiveness, it is essential to introduce gamification to build a positive attitude towards work that can boost performance.