Reward and pay: an overview
Revised
January 2013
What are reward and pay?
The term ‘reward’ is generally understood to cover all financial provisions made to employees including both cash pay and the wider benefits package (pensions, paid leave and so on). It may also refer to wider provisions for employees, with the term ‘total reward’ encompassing elements such as training opportunities or a congenial working environment in addition to pay and benefits.
Pay may be divided into two categories:
- base or fixed pay – that is, the guaranteed cash wage or salary paid to individual employees for performing their work for a contracted period of time
- total earnings – this includes base pay plus additional variable elements of earnings such as bonus payments, while the term could also be used to include aspects such as overtime earnings.
It is important to note that pay definitions vary, for example, certain location allowances might be regarded as part of permanent basic pay whereas others might be more flexible and hence excluded from definitions of base pay.
Other terminology may also be used, for example ‘compensation’ is usually taken to refer solely to financial rewards (base pay and earnings) while ‘remuneration’ might be used interchangeably with ‘reward’ as it generally encompasses the wider benefits package in addition to pay.
Managing pay and reward
The aims of reward and pay are to attract, retain and motivate staff: traditionally, salaries were thought to be what attracted individuals to an organisation, benefits helped to keep them there and bonus and incentive schemes motivated them in their work. However, the perceived divides between which parts of reward are best suited for recruitment, retention and motivation have to varying extents broken down in recent years.
Latest research reveals that individuals are attracted, retained and engaged by a whole range of financial and non-financial rewards and that these can change over time depending on their personal circumstances. It may be that individuals in certain situations do not consider the financial elements of a package particularly important. For instance, people at the beginning of their career may be more interested in gaining access to training and career development. Similarly, individuals may be willing to work for lower pay rates (or even volunteer their services for free) if they have a strong attachment to the mission of an organisation such as a political party or a charity.
Employers need to find out what attracts, retains and engages individuals and explore how best they can meet these needs - as well as meeting the requirements of the business within the appropriate legal and regulatory environment. When creating an employer offering, it is also crucial that organisations integrate the various elements of the reward package so that they support, rather than contradict, one another.
A number of organisational risks are involved when making decisions on how employers reward and recognise individual and collective contribution. For more information, see our most recent survey on reward risks.
There is also a need to determine an appropriate communications strategy to explain to staff what behaviours, values and performances the organisation is rewarding, how and why. Our annual survey on employee attitudes to pay examines UK employees’ opinions and attitudes towards pay and bonuses.
It is important for organisations to establish a reward strategy that clearly articulates the aims of the various reward elements, integrates them in a coherent way and explains to employees what they can expect to receive and why - see our factsheet covering strategic reward.
Determining base pay and total earnings
Pay structures
Pay structures provide a framework for valuing jobs and understanding how they relate to others within the organisation and to the external labour market. Our annual reward management survey illustrates that a wide range of different types of pay structures exist, linked to varying organisational needs and objectives, including the following approaches:
Pay structures may need to allow for certain additional elements other than basic pay rates, for example the inclusion of location allowances where appropriate.
See our factsheet on pay structures for more detailed information.
Pay levels
There are various approaches to setting pay levels or ranges associated with pay structures. For example job evaluation is an important tool for setting pay rates among public sector employers, whereas market pricing tends to be more influential in driving private sector salary levels. By employer size, the views of the owner or managing director are more important in smaller firms than in larger firms.
Where market rates are used, employers need to determine where to pitch in-house rates (say, at the median or upper quartile level).
See our factsheet on market pricing and job evaluation for more information on these topics and the pay data sources available to employers.
Pay awards
When determining the size of the overall pay review budget for annual pay increases - which often includes performance-based pay rises as well as general pay structure movement (commonly known as the annual pay award or cost of living uplift) - the key considerations are:
- ability to pay
- inflation
- movement in market rates
- the ‘going rate’ of pay awards elsewhere
- recruitment and retention issues.
There are certain variations by sector. For instance, in the public sector the key determinant is public policy and funding together sometimes with union pressure, whereas the latter factor is rarely an issue for many private sector companies.
CIPD members can find more information about setting pay review budgets and determining the level of individual and collective pay rises in our guide to the pay review process.
Pay progression
The most commonly used factors for progressing individuals along salary bands or ranges include individual performance, market rates and competency. The typical approach is a hybrid one that bases progression on more than one factor - involving an assessment of what is achieved by individual employees against the backdrop of what is happening in the wider labour market. See our factsheet on pay progression for more information.
Many organisations expect that ‘satisfactory’ performers will progress to a target point in their pay range. Further analysis reveals that the target point among private sector service employers is often the mid-point in the range, while in the public sector the target point tends to be close to the top of the range. In the voluntary and manufacturing and production sectors, employers tend to be more evenly split as to whether the target is at the mid-point or towards the top end of the pay band.
Variable pay: cash bonuses and incentives
Our reward management survey illustrates the widespread use of bonus and incentive awards, either to encourage future performance (incentives) or to recognise past performance (bonuses). Again, however, there are variations by sector - with such schemes more widespread in the private sector.
Bonus and incentive schemes are most commonly linked to an individual’s performance, followed by approaches based on organisational performance - the most popular being those driven by business results (such as profit or revenue targets) - and combination schemes that are driven both by organisational and individual performance.
Most employers have more than one bonus or incentive scheme, typically around three per organisation. The advantage of variable pay schemes is that they can link variable pay closely to desired performance outcomes and, in theory, only pay when there is something to pay out. This element of pay is generally not pensionable so an additional benefit for employers is that they sustain no additional on-costs.
For more information on cash and non-cash bonuses and incentives, see our factsheet covering these topics.
The legal position
When determining pay and reward policies, employers must meet legislative requirements including, for example, provisions on equal pay and the national minimum wage (NMW).
Equal pay is an aspect of sex discrimination law giving the right for men and women to be paid the same for the same, or equivalent, work. However, in spite of the legislation, there is still a significant gender gap in pay. For more information, see our equal pay factsheet.
The national minimum wage applies to all workers age 16 and over. There are currently three main rates - expressed as national hourly rates - covering workers aged under 18, those aged 18 to 20, and those aged 21 or over, together with an apprentice rate. Employees cannot agree to accept a rate lower than the NMW. Full details can be found at the HMRC website (see Useful contacts below).
Executive pay
In respect of rewards for senior employees, practitioners need to pay regard to the regulatory background and corporate governance standards. The CIPD has produced a list of guiding principles to support the process of determining executive rewards and in our podcast, professionals, practitioners and academics on the CIPD Reward Panel discuss executive pay and bonuses.
The role of employee benefits
A wide range of benefits may be provided to employees, from traditional items such as paid leave and occupational pensions to newer elements such as concierge services.
There are various reasons why employers offer benefits to employees, for example to match market practice, to provide employees with some measure of security (such as health or disability insurance) or to retain employees (occupational pension schemes, for instance). Some benefits, such as childcare vouchers, can be tax-efficient methods of remuneration via salary sacrifice provisions. Share schemes are one specific option for attracting, retaining or motivating senior managers (executive arrangements) as well as employees (all-employee schemes), and these may currently be favoured for their capacity to provide long-term incentives in respect of rewarding appropriate performance as well their more traditional function in aiding retention.
See our factsheet giving an overview of benefits for more information.
Flexible and voluntary benefits schemes
Typically found in large private sector organisations, flexible benefits schemes (also known as 'cafeteria benefits' or 'flex plans') are formalised systems that allow employees to vary their pay and benefits package in order to satisfy their personal requirements.
Voluntary benefits (where employers arrange for the purchase of goods and services, often at a discount, by employees) are somewhat more widespread than flexible benefits, partly as they have no cost to employers (other than set-up and administrative costs).
For more information, see our factsheet on flexible and voluntary benefits
Non-financial rewards and total reward
While pay and benefits are important, and getting them wrong can have severe adverse consequences for an organisation, they are not the only rewards that employers should consider. Research shows that non-financial rewards can be just as important. These include:
- opportunities for personal and career development
- flexible working (such as working from home or flexitime)
- being involved in decisions that affect how and when employees do their work
- a pleasant working environment
- good performance management and appraisals
- recognition, such as through an ‘employee of the month’ award or team-based events.
Reward strategies that encompass non-financial provisions in addition to pay and benefits are often known as total reward approaches.
Further information can be found in our factsheet covering strategic reward.
CIPD viewpoint
Employers need to align the rewards desired by employees with the needs of the business. There are various elements to reward and it is important that they choose the appropriate mix of base to variable pay, fixed to flexible benefits and pay to non-pay rewards. They should moreover be aware of the various organisational risks that are involved when making decisions on how they reward and recognise individual and collective contribution. There is also a need to recognise the signals that pay sends out about the organisation, so it is important that an appropriate communications strategy is adopted to explain to staff what behaviours, values and performances the organisation is rewarding, how and why.
Further reading
Books and reports
ARMSTRONG, M., BROWN, D. and REILLY, P. (2010) Evidence-based reward management: creating measurable business impact from your pay and reward practices. London: Kogan Page.
CORBY, S., PALMER, S. and LINDOP, E. (2009) Rethinking reward. Basingstoke: Palgrave Macmillan.
INCOMES DATA SERVICES. (2011) Wages. Employment law handbooks. London: IDS.
PERKINS, S.J. and WHITE, G. (2011) Reward management: alternatives, consequences and contexts. 2nd ed. London: Chartered Institute of Personnel and Development.
Visit the CIPD Store to see all our priced publications currently in print.
Journal articles
COTTON, C. and CHAPMAN, J. (2010) Rewards in the UK: top 10 risks. Workspan. Vol 53, No 1, January. pp53-57.
Living wage makes a 'huge difference' to workers. (2012) Workplace Report. No 107, November. pp15-16.
MCMULLEN, T. (2012) 5 things I've learned about rewards communication. Workspan. Vol 55, No 7, July. pp44-46,48-49.
MURLIS, H. and EVANS, C. (2011) Pay: not just a financial transaction. Benefits and Compensation International. Vol 41, No 1, July/August. pp15-16,18-20.
PASSIN, G. and ROSEN, S.M. (2011) The changing face of global executive compensation. Workspan. Vol 54, No 7, July. pp24-29.
The significance and benefits of pay transparency. (2010) IDS Pay Report. No 1057, September. pp6-9.
CIPD members can use our online journals to find articles from over 300 journal titles relevant to HR.
Members and People Management subscribers can see articles on the People Management website.
This factsheet was last updated by CIPD staff.