Compensation plan

Compensation plan

Author: Josh Steinfeld
|
Read time:  7 minutes
Published date:  7 July 2022
A compensation plan outlines salaries, bonuses and equity. Learn how to develop a compensation plan for your company, so you can attract and retain talented employees.

What is a compensation plan?

A compensation plan (also known as a comp plan) is a set of guidelines for making decisions about employee salaries, bonuses and equity. It gives current and prospective employees a clear view of their compensation package, which can be an advantage when your company is hiring.

To be effective, a compensation plan needs to illustrate the value of what you’re offering employees (compensation bands), define roles and levels and outline how performance will be evaluated. Ideally, it will form part of a total rewards plan, which covers compensation plus employee benefits.

Foundation of a compensation plan

A compensation plan is built on four pillars: compensation philosophy, job architecture, performance management and incentives.

  1. Compensation philosophy: your company’s overall stance on employee compensation. Your compensation philosophy should align with your business strategy to hire, retain and reward top talent. 

  2. Job architecture: how you define roles and levels. Also called job levelling or job structure, this refers to the hierarchy of roles within your company.

  3. Performance management: guidelines for evaluating performance. This helps managers track employees’ contributions so they can receive actionable feedback and advance their careers.

  4. Incentives: how you reward employees for high performance or tenure. Incentives like bonuses and equity compensation help to motivate your team and boost productivity.

Whether you’re creating or updating your compensation programme, it all starts with a clear philosophy. Once you’ve established company values, it’s much easier to make decisions that match those values.

Learn how to plan and implement an effective compensation strategy

Why your company needs a compensation plan

Implementing an official compensation plan helps to ensure pay equity and transparency, maintain company culture and retain top talent.

Pay equity means compensating employees equally for performing the same or a similar role, according to factors like experience and performance. Without a compensation plan, pay equity can be difficult to track and manage, especially for early-stage companies.

A fair work environment increases employee satisfaction and productivity, according to a 2024 report by the Institute for Employment Studies. By implementing a scalable compensation programme early on, founders and CEOs can attract the best employees and reduce turnover. 

Compensation vs. total compensation

Compensation (sometimes referred to as “direct compensation”) consists of salary, bonuses and equity. “Total rewards” encompasses compensation plus non-cash benefits. 

Compensation

Total rewards

Salary

Salary

Bonus

Bonus

Equity

Equity

Benefits

Total rewards plan advantages

Having a total rewards plan (compensation plus other employee benefits) helps your company stay competitive in the talent market. The table below lists some key advantages of total rewards plans.

Advantage

Example

Helps to eliminate bias and accomplish DEI (diversity, equity and inclusion) initiatives.

Creating affinity groups for employees based on shared backgrounds or interests to increase feelings of belonging in the workplace.

Supports strategic goals.

Bonuses attached to a company-wide goal of increasing the customer base by 20%.

Shows integrity and transparency from leadership.

Weekly office hours with company executives, so employees can ask questions and feel heard.

Enables companies to retain and attract top talent.

Annual cost-of-living salary increases to keep up with rising inflation, in addition to performance-based compensation reviews.

Fosters employee engagement and loyalty.

Hosting company offsites where teams can connect and build trust outside of work.

Reinforces company culture.

Encouraging open feedback and recognition to help with career development.

Types of compensation

There’s no one-size-fits-all approach to structuring a compensation plan, but here are some key considerations for direct compensation.

Salary

Salary typically forms the foundation of a company’s total rewards plan. When deciding what to pay your employees, consider geography and team structure.

Localised vs. international salaries

Salaries can either be standardised, regardless of location, or they can be based on an employee’s specific region. For example, you may choose to pay employees in London more than employees based elsewhere in the UK, due to the higher cost of living and need to stay competitive in local markets.

Salary structures: traditional vs. broadband

A traditional salary structure is common at larger companies. This structure has smaller differences between the minimum and maximum salary bands, placing more emphasis on promotions.

Here’s an example of a traditional salary structure:


Level 1

Level 2

Level 3

Level 4

Level 5

Salary

£36k–£45k

£45k–£55k

£55k–£64k

£64k–£74k

£74k–£83k

In a broadband salary structure, the bands are much wider. This structure is typically used by early-stage companies and small teams because it allows for more flexibility.

Here’s an example of a broadband salary structure:


Level 1

Level 2

Level 3

Salary

£36k–£52k

£52k–£67k

£67k–£83k

Bonus

A bonus is additional compensation given to employees, typically based on performance. When factoring bonuses into your compensation plan, consider employee eligibility, targets and payouts.

  • Who is eligible? Companies typically implement a different bonus structure for sales teams and other departments. For instance, sales representatives may earn commission on top of their base salary.

  • What targets do employees need to hit? Performance targets can be fixed numbers or percentages, and can vary by job level. You can also create target ranges for bonus payouts. 

  • What is the payout structure? A compensation plan can specify minimum and maximum bonuses, outline the frequency of payments and include a methodology for payout metrics.

Equity

Equity is the final piece of direct compensation. Equity compensation incentivises employees to stay with the company for longer by giving them an ownership stake; as the business grows, so does the value of an employee’s equity. A compensation plan should outline the types of securities issued, grant dates and vesting schedules.

Types of equity

Common types of equity for early-stage companies in the UK and Europe are:

Approved options have more favourable tax treatment than unapproved options. Restricted stock units (RSUs) are popular among more mature companies because employees don’t need to pay to exercise (and therefore own) their shares. The exercise price would otherwise be prohibitive, considering the typically high valuations for late-stage companies.

As your company grows, your equity strategy might shift from issuing share options to RSUs or growth shares. For instance, you may want to limit share dilution or be planning for a future IPO. That’s why it’s important to revisit your compensation plan regularly, such as once a year or every time your business goals change.

Vesting schedule

A vesting schedule is another key consideration when issuing equity. Vesting is the process of earning options or shares over time, which can motivate employees to stay at the company for longer. There are three common types of vesting schedule: time-based, milestone-based and a combination of the two.

A typical vesting schedule for equity issued to a new hire is four years with a one-year cliff. The diagram below shows how this grant would vest over time.

Share vesting – graph 1

Milestone or performance-based vesting is less common. According to this approach, options or shares are only distributed once an individual or the business reaches a pre-determined goal (e.g. hitting a sales target or a certain company valuation). 

Refresh grants

Companies that offer equity as part of a compensation package may also choose to offer refresh grants. This is an additional grant given to existing employees who have already received equity.

Consider the following questions:

  • Will you introduce an equity refresh programme? Along with salary increases, equity refresh grants can help with employee retention. 

  • How will you structure refresh grants? The structure of your refresh grants can help to counteract the reduction in unvested equity value over time. Many private companies use a traditional vesting schedule, which often leads to employee turnover after their initial grants vest.

When will employees receive refresh grants? You can choose to time refresh grants based on an employee’s start date or a “focal” date (which would mean issuing equity to several employees at the same time).

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Types of benefits (indirect compensation)

Retaining employees doesn’t just depend on compensation; it often comes down to benefits, development opportunities and company culture. Together, these elements make up your total rewards approach.

Companies can offer a variety of perks to employees, depending on their philosophy and overall mission. For example, a rideshare business might offer fully paid commuter benefits, while a medical imaging company might decide to prioritise wellness benefits.

Employee benefits include: 

  • Medical insurance

  • Retirement benefits

  • Wellness benefits (such as gym reimbursement)

  • Educational incentives or continuous learning stipends

  • Well-being benefits (coaching, meditation, therapy)

  • Volunteering opportunities

  • Flexible work opportunities (hybrid work)

  • Paid time off (PTO) and paid holidays

  • Company equipment (such as a laptop)

  • Reimbursement for childcare expenses

Each company is different and some leaders choose to prioritise direct compensation over benefits.

How to create a compensation plan

The process for creating a compensation plan varies from company to company. These are some of the steps you could take:

  1. Determine your compensation philosophy

  2. Outline job architecture by defining roles and levels

  3. Create guidelines for performance reviews

  4. Define direct compensation (salary, bonus and equity)

  5. Include employee benefits

  6. Implement a pay equity process to ensure fair compensation

  7. Conduct post hoc reviews

Compensation plan example

Now that you’re familiar with the structure of a compensation plan, let’s explore an example. Consider a hypothetical Series C company, Meetly, that has a compensation philosophy of “compete on salary, beat on equity”.

Meetly’s HR manager, Samantha, develops a compensation strategy based on this philosophy, deciding to offer salaries in the 75th percentile and equity grants in the 90th percentile. She uses Carta to implement a compensation framework that will help Meetly attract top talent.

Carta’s extensive set of proprietary data allows Samantha to benchmark salary and equity against Meetly’s peer group (i.e. other companies with a similar post-money valuation). She can then set up in-app compensation bands for each level within a job family, and adjust them periodically to reflect market changes.

Compensation plan – salary bands

The image below shows an employee scorecard for one of Meetly’s software engineers, indicating where her compensation package (including salary and equity) sits within the bands defined by Meetly for this specific role and level.

Compensation plan – employee scorecard
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Josh Steinfeld
Josh Steinfeld leads product strategy for Carta Total Compensation. Josh has been a compensation professional for the last 20 years, most recently leading compensation at Google for YouTube and Google’s corporate functions.

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