By: Paul Davis on May 16th, 2023

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Salary Benchmarking Helps Avoid Underpaying (Or Overpaying!) Your Team

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I’ve consulted with a lot of organizations on issues around employee salaries, and I’ve learned one important thing.

Employers generally aren’t trying to play games with staff compensation. They realize that there are few benefits in lowballing or haggling with candidates. Quite simply, employers just want to pay their people fairly and competitively!

However, this isn’t as easy as it seems. An evenhanded compensation strategy requires sensible HR administration and accurate salary data, plus a meaningful compensation philosophy to guide all decisions.

It can be a lot of work, but it’s worth the effort to make sure you’re not underpaying your people—or overpaying them!

The problems with unbalanced employee compensation

If your salary structure isn’t in line with current market rates, it can create problems that will undermine your entire people strategy. This is true whether you’re offering below the typical average salary in the current job market or if you’re paying above the odds.

Let’s look at the problems that arise from both issues.

The problems with overpaying employees

Sometimes, it’s tempting to offer candidates above your typical pay rates, especially in a tight labor market. While this can help you land your ideal candidate, it can also lead to serious problems down the line, such as:

  • Compounded costs over time: Salaries are an annual event, so overpaid employees can increase your labor costs over time. For example, suppose you offer a candidate $80,000, but market data (such as salary surveys) suggests you should offer $73,000. After four years, that $7,000 difference will become an extra $28,000 on your wage bill.

  • Impact on salary structures: Offering a high salary can disrupt your existing team. Your new hire starts at $80,000, but they might join a team with pay ranges of $65,000 to $73,000. The incumbent employees are likely to be unhappy with this disparity—and recent pay transparency laws mean that they’re more likely to find out.

Overpayments have serious consequences for your team and your business. But underpaying can be even worse.

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The problems with underpaying employees

Offering too-low salaries can also hurt your business in a number of ways. Common problems include:

  • Struggles with recruitment and employee retention: Employees are subject to a number of push factors and pull factors, and they don’t always quit if they think they can earn more elsewhere. However, if your salaries are substantially below market average, you’re likely to see a higher rate of staff turnover. Your hiring managers will also struggle to attract top talent if you can’t offer competitive salaries.

  • Lower employee engagement and productivity: Most studies suggest that higher wages lead to higher productivity. Productivity is also closely linked to employee happiness and a sense of fairness. Essentially, if people feel they’re being paid fairly, they work harder. If they feel that they’re being shortchanged, they won’t put the same effort into their work.

  • Impacts on DE&I: Wage disparities tend to impact women and minorities more than other groups. This happens for a number of reasons—for example, women are generally less likely than men to negotiate for a higher salary. If you don’t stick to well-planned salary ranges, then you might see even bigger wage disparities within your team.

Whether you’re underpaying or overpaying, the problem is that you’re not paying in line with current market values. To avoid this, you’ll need to develop a salary benchmarking process.

Things to consider in your salary benchmarking process

Compensation benchmarking is an ongoing task. You might offer competitive compensation packages today, but things change quickly. The cost of living is soaring, candidate expectations are rocketing, and you could easily find yourself falling below market averages.

It’s a good idea to assign a salary benchmarking team or to bring in a human resources consultant that can help you manage your salary structure. Here are some things to consider in your process.

Reliable sources of compensation data

In order to benchmark jobs (i.e. determine how much they should be paid), you need to compare the roles within your organization to the external market. Be sure to compare market data that syncs with your organization's situation in the market. Focus on market data for organizations you’re competing against in the talent market.

Compensation data is usually based on compensation surveys conducted by third parties. Like any third-party service, you’ll need to shop around for the best salary benchmarking data n. Ask questions about the data sources involved and methodologies involved in salary surveys.

Market Competitiveness

Part of a good compensation philosophy is knowing how your company fits into the broader labor market. Does your company want to ‘lead’ the market (i.e. maintain a pay structure that’s above the typical market midpoint), or ‘lag’ the market (i.e. keep salaries on or below the midpoint)?

When you benchmark roles, the comparison should be based on the role expected to be performed, and should not reflect anything about the actual individual that’s actually in the role (which comes later).

Consistent job design

Does your organization have clear naming mechanisms that are applied consistently across all jobs? Even if your organization does this consistently, I can say from experience that many do not. You have to review compensation based on the description of the role, not the title.

If we can agree that titles are dissimilarly applied across companies, then let’s get out of the business of comparing compensation based just on job titles. This is only one example, but a common disconnect in naming mechanisms frequently occurs with sales jobs. For instance, you might have two employees with similar job responsibilities, one of whom is a Sales Executive and the other is called an Account Manager. How do you perform accurate salary benchmarking in this instance?

Part of the answer is to have a consistent approach to job titles and internal job descriptions. This way, it’s easier to make like-for-like benchmarking comparisons.

Internal Equity

Anchoring your compensation plans to market data makes sense as you compete for talent within ‘the market’. The issue with using market data as the sole factor regarding pay decisions comes down to the fact that it ignores your internal culture and team structures.

Jobs of similar levels of responsibility and difficulty within an organization should generally be paid the same amount. The exception is with some technical jobs that demand higher salaries due to the nature of the work and the scarcity of talent that drives up the cost such roles. If only external market data is used to inform compensation decisions, you can create a system at your organization that is not internally equitable across functions and can create a host of issues.

Pay compression

Compensation decisions at a company are not made in a vacuum, and making decisions that ignore current incumbents and how they’re paid is introducing an unnecessary risk to company morale.

Taking internal equity into account when making pay decisions helps organizations avoid issues such as pay compression (new hires being paid close to or more than more experienced incumbents). It’s great not to have to put out fires because they’re not burning in the first place.

Getting your compensation strategy right

Organizations that practice due diligence and HR best practices in market pricing their roles put themselves in a position to remain competitive in their market since they’re not overpaying for their labor. At the end of the day though, just completing a single compensation review and making associated adjustments will create a single point in time when your compensation and Total Rewards are set up appropriately for your organization.

To ensure that you’re getting the most out of your compensation-related work, you also need to make sure that you have the correct administrative controls in place, and a recurring schedule of market data refreshes so that your compensation administration doesn’t fall into disrepair.

Want some expert advice on employee compensation? Book a call with a Helios HR consultant today!

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