Rendering a profitable sales commission is one of the first things you need to determine when running a company. It’s a decision that you simply can't ruin.
In case you are just starting and have no idea what a sales commission structure is, don’t worry because we have got you covered. This post will be a quick overview of sales commission structures. We'll cover topics of what it is, its importance, how it works, and what the best structure is for your company.
What Is A Sales Commission Structure?
The sales commission structure represents how your employees are compensated for different aspects of their job. These aspects include quantity sold, number of consumers sold to, specific tasks, etc. Generating outreach through email warmups and automation can also be one way of determining sales commission.
This, in addition to their basic salary, make the “On-Target Earning” of an employee. This determines the variable component of their earnings so a proper sales commission structure will motivate employees to work harder.
This is a pretty important part of operating your business but still, let’s take a deep dive into why it is crucial to get a good sales commission structure for your company to succeed.
Why Is It Important To Get It Right?
The sales commission structure is the way that you pay your reps as such: it is the prime motivator for most salespeople and often determines how well your staff performs.
Let’s analyze the benefits of getting a suitable sales commission structure and how the benefits can elevate your business to the next level and why you might fall flat on your face without them.
1. Boosted Performance
Making sales is no easy task and so you need to pay your talented employees well to make sure that they stay motivated and on their best form to make sales efficiently and get you the results that you need.
A single motivated salesman can change your entire business. In fact, about 80% of sales are made by only 20% of sales reps. One-fifth of the workforce makes a large chunk of the sales.
How do you keep these wolves hungry for more? Much like blunt sharps need sharpening, your sales team needs a little bit of a push and nothing can push them harder than the chance to make some cash.
Money is one of the strongest motivators and this fact is easy to see especially in sales. Over 1 trillion dollars are spent on sales forces annually.
2. Lesser Turnover
It can be hard to keep going when there’s minimum turnover because most people can’t handle that pressure.
In fact, the turnover rate for the average sales team is 34%. That’s right; one in three of your workers will quit when the going gets rough. What can you do to avoid this?
Well, as we already established when talking about performance, money can change people. Usually, that sentiment has negative connotations but in this case, this works for your benefit.
With a good paycheck, your sales reps will be much more hesitant to let go of their high-paying jobs. On the flip side, if you don’t compensate them well enough, they will be out the door faster than the roadrunner.
3. Healthy Work Environment
Lastly and perhaps most importantly, well-motivated workers create a healthy and hospitable environment. You might be wondering; why is this so important?
A lot of you are under the impression that being a sales rep means you’re always on the move and talking to clients and running around from supplier to suppliers; to check supplies.
Sadly, being a salesperson is much more mundane than the exciting picture you’ve painted in your head.
As a matter of fact, 92% of communication with customers is done over the phone.
This means that you are stuck to your chair all day, making calls to various clients. This boring and laborious work habitat can often lead to workplace depression.
You have a duty as an employer to make sure your workers have a light-hearted atmosphere around them. You can achieve this by offering a commission structure that keeps your workers content and inspired.
We can not stress the importance of dealing with workplace depression. It is one of the most overlooked issues of our time. Play your part in battling it by making your workplace healthy and more importantly, happy.
Types Of Sales Commission Structure
So, now that we know why choosing the right sales commission structure is a monumental task that needs your utmost attention, let’s look at ways that you can compensate your workers, the pros and cons of these methods, and who each method is best suited for
1. Base Salary
Let’s start with the simplest commission structure if you can even call it that. The employees are paid no additional amount for the sales they make.
Instead, they are paid a set salary or in some cases, a weekly or hourly rate. This is very unpopular nowadays and for good reason, too. But let’s start by taking a look at the positive sides.
- Stable income
- Independent payment scheme.
Employees will have a steady stream of money coming in, their pay won’t be dependent on their performance so it is a really safe option.
- No competition.
As all sales reps on the same level will be earning the same amount, there will be little rivalry in the workplace and very little pressure to perform.
- Easy to calculate.
They are earning a basic salary, there is nothing to calculate here. This makes accounting much simpler for you.
- Workers are not motivated...At all.
The first and second pros are also its biggest flaws. The workers have no motivation whatsoever to make more sales than needed. They will likely do the bare minimum to keep their jobs.
Who This Plan Is Best For:
This commission plan is best for companies that focus more on chasing leads than making sales. Employees in this structure spend a lot of time answering customer questions instead of trying to make sales. This makes gathering leads easy.
2. Base Salary Plus Commission
On to a much more common system, the base salary plus commission structure is exactly what it sounds like. Employees are paid yearly, monthly, weekly, or hourly rates and a commission on each sale alongside this amount.
This is one of the most popular commission structures due to its numerous benefits. Let’s take a quick look at what makes this such a good structure.
- Stable income.
As with the previous structure, the employees have a steady source of income. They don’t have to make a specific number of sales to get paid.
- Employees are well-motivated.
The main criticism of the previous model is the lack of incentive to make more sales. This is well dealt with in this model as making more sales will earn them a higher amount so your sales team will likely give it their best shot.
- Calculations can be tedious.
Most of these models go for a 60:40 split. Meaning that 60% of the employees’ income comes from the salary and the rest is from commissions. This calculation makes the account a little complicated.
- All workers may not be motivated.
As we mentioned, 40% of their income comes from commissions. That 40% may not be enough to keep some sales reps hungry for sales.
Who This Plan Is Best For:
This plan works well for most companies. This is a good versatile structure that fits into a company of any size and type.
Moving on to another rather very popular system, this is the polar opposite of the first type of structure we discussed.
With this structure, the employee receives no steady income whatsoever. They receive no base pay of any kind. Instead, they get well compensated for the sales that they make.
That is why this structure is also called a 100% commission model. Without further ado, let’s take a look at the pros and cons of this structure.
- Employees are uber-motivated.
The sales reps are responsible for their own income. The more sales they make, the more they’ll earn. Their entire income is dependent on how hard they work and this means that this structure probably is the best for motivating your employees.
- Easy to calculate.
Although they are on the opposite ends of the spectrum, there is one thing in common between this structure and the first structure. They are both super easy to calculate. They get as much as they sell; not that complicated.
- No fixed cost.
This is a great benefit for you. You won’t have to pay a set amount every week or month or year. You always get a return for the investment you make when you use this structure.
- Lack of stability.
Unlike the previous two structures, this method offers no steady income to the employees. This makes it a little risky for the sales reps as they don’t have a cushion to fall back on if they fail to make enough sales.
- Immense Competition.
This structure creates a super competitive work environment as everyone is looking to make sales. There is less comradery in the workplace and this may lead to workplace depression.
Who This Plan Is Best For:
This is the perfect plan for startups that don’t have enough money to offer a salary to their sales teams.
4. Draw Against Commission
Last up, we have a commission structure that works as a sort of loan. This method is a little more complicated than the other so bear with the US here.
Let’s try and understand this with an example we’ll carry on throughout this post. Let’s say ‘John Doe’ is working under a draw against commission structure.
John’s main revenue will be his commission. Much like the straight-commission structure, John will get a commission on each sale he makes and no base pay. What makes it different from a straight commission structure?
John will be paid a set minimum amount every month, this is also called a draw or guarantee. Let’s say this amount is $1000. He will receive $1000, even if his commission adds up to a lower amount.
Let’s say John earned $500 in February. He will still receive $1000 that month but the company will keep a tab of the excess $500 that he received. The company obviously won’t just give that money away. But how does it get it back?
Now suppose next month, he earned $1500 next. The company will only pay him $1000 to compensate for the loss they made the previous month. The process isn’t this simple usually as it takes employees a lot more time to pay back these loans.
- Stable Income.
This structure is a stroke of genius in our opinion as the employees are provided with a fixed income at no cost to you in the long run. There is a cost in the short-term but this is a great investment as you are almost guaranteed to earn it back.
- Peak employee motivation.
Just like the straight-commission structure, this structure also makes sure that your employees are motivated. They determine how much they earn by putting in the necessary effort. This encourages them to give it a 100%.
- Too risky.
Remember how we said you are almost guaranteed to earn your investment back? Put an asterisk on that almost because that’s entirely dependent on your sales team.
If your sales team can be efficient enough to outperform the guarantee, you can kiss that draw bye-bye. We’re not even considering the possibility of scammers.
- Does not motivate everyone.
Some employees will not be motivated in this system either. They will simply do enough to earn the draw amount. You can’t motivate these people as they don’t want to work hard and you can’t change that.
- A lot of pressure.
Not only is the competition equal to the commission structure. If the owed draw builds up, it can be overwhelming for a lot of workers, and again, we’ll be faced with the dreaded workplace depression.
Who This Plan Is Best For:
This is more of a question of when then who. This is a good plan in times of economic distress. You don’t have to pay salaries to provide your sales team with steady incomes in trying times.
This plan can also be used to help newbies settle in as a straight commission structure can be quite intimidating for someone who just starts.
Types Of Sales Commission Plans
Now that we know the four ways that employees can be compensated, let’s take a look at the types of commission plans that you can offer your sales reps, how these plans work and what companies these plans are best for.
1. Relative Commission
In this commission plan, your sales rep earns based on goals that you set. They will be paid according to what percentage of that goal they have completed.
Let’s go back to John for this example, suppose John is receiving a relative commission. John will have a goal of making $100,000 of sales. If he completes that goal, he will earn a commission of $10,000 (that’s a rate of 10%.)
Say he completed 80% of the objective, meaning he made $80,000 worth of sales. He will receive 80% of his commission at $8,000. You will notice that the rate usually stays constant.
The downside to this type of commission is that there is no reward for exceeding the quota. This makes the system unsuitable for overperformers and motivated staff.
This commission plan is easy to follow and well-suited for most businesses. Although we suggest curbing this system if your workers are very hard-working, the quota can demotivate them.
2. Absolute Commission
This is a goal-based commission plan, much like the previous one. But unlike the previous method, you have to complete the goal to be compensated. The reason for this strictness is that most of these goals are not monetary.
For an example of this type of commission, let’s use John again. John will be given a specific non-monetary goal such as getting new customers or increasing social media reach. (Number of subscribers on the company’s youtube channel, more followers on Twitter, etc.)
If he completes that goal, he will be compensated. This is also performance-based. In this example, he would receive $100 for each customer or $500 for every 1000 new followers. This makes the earning capability infinite.
The downside to this is that there is no cap on the earning capability. “Wait, you said that a quota was a downside?” Someone’s observant… Well, you see while it may demotivate your workers, it still makes your costs foreseeable.
An incredibly efficient worker may not just complete their goals but more engagement than you anticipate and as these goals are not monetary, it takes a while for you to financially benefit from their work so you may not be able to compensate them in the short term.
We suggest using this model if you are looking to achieve non-monetary goals like increasing your customer base.
3. Straight-line Commission
Similar to the first method, this pays employees based on monetary goals. The difference is there is no quota or set goal. They earn a percentage of how much they sell.
For example, John makes $200,000 worth of sales. If the rate of commission he receives is 5%, he will receive $10,000. This is a great system for motivated workers as the earning is entirely up to them and not capped in any way.
As we observed when discussing the straight-commission structure, this earning opportunity can create a hostile work environment and a lot of competition. This may demotivate your workers quite a bit.
On the other hand, some workers are not hard-working. That’s their nature. They won’t work for those rates if they have a base pay and even if they don’t, they’ll do the bare minimum.
This model is good for companies where there is a low skill disparity between the employees. This means that you want all your sales reps to be of similar quality as overachievers may demotivate your weaker employees.
4. Multiplier Commission
This is by far the most complicated commission plan on this list. The good news is that it is completely customizable. This system can be a little hard to follow so we recommend that you need the next part very carefully.
A multiplier commission means that the commission is, as the name suggests, multiplied on completion of specific goals.
For example, if John completes his goals of selling 5 million units of a product and getting 40 new clients, then his commission will be multiplied by say, 1.6. This multiplier is entirely dependent on you.
This makes the system easy to mold. Mind the word “easy” though. The calculation can get quite tricky at one point and we suggest having less complicated multipliers.
This plan is perfect for companies with good managers that can come with creative multiplier strategies and keep a close on their teams, keeping track of their performance and the goals that they have been assigned.
5. Gross Margin Commission
On to a much more simple model, the gross margin commission plan is as simple as they come. Similar to the straight-line and relative commission, your employees will receive a fixed percentage of the sales that they make.
The difference here is that the percentage that they earn is calculated after expenses. In layman's terms, the company will give the employee a portion of the profit rather than the revenue.
For example, John sells $10,000 worth of paper and the cost of producing that paper was $2,000. In this scenario, John will only receive a commission on the $8,000 profit that the firm makes after reducing the cost.
This method encourages the sales reps to look for higher profit margins. The firm benefits greatly from this as this not only cuts the wages they need to pay but the costs could potentially fall as well.
This may be considered exploitation however as the worker isn’t receiving the entirety of the deal he worked but only part of the profit that the business makes. This sense of exploitation may demotivate some workers.
This plan is good for all businesses but our recommendation is to not use it after reaching a certain size as it does hurt your brand image due to its exploitative nature.
6. Tiered Commission
The next plan on this list is simple as well. This, again, is very similar to the previous monetary objective-based commission plans we’ve viewed. This method relies on milestones rather than percentages, however.
The salespeople get paid a certain amount after reaching a certain milestone. This is similar to absolute in the sense you have to reach that milestone to get the compensation and completing a percentage of it is not enough.
John is back again to help you understand this method! John receives a 5% commission if he completes $100,000 worth of sales and a 10% commission if he completes $200,000 worth of sales.
This means that he won’t receive any commission before achieving that milestone, even if he earns $99,999. He won’t receive the bonus till he achieves the second milestone either.
This strictness makes this system both effective and ineffective at the same time. Hard-working employees will certainly reach both milestones while weaker sales reps may give up at one point.
This method, yet again, is suitable for any business. This isn’t the most efficient motivator however as reaching those goals may be rather intimidating for a lot of workers.
7. Territory-based Commission
Last up, we have a team-based commission. This is pretty simple. If your team makes a lot of sales in one region, every member gains a commission. This is done to motivate workers in regions where your business is not succeeding.
This plan is obviously suited for bigger businesses. Smaller businesses should put all their focus into one region rather than trying to diversify.
We suggest that you keep as simple and easy to follow as possible. Make a simple structure and you’ll find optimal motivation among your employees.
We’re going to end this by saying that you need to pick a plan that’s not just going to earn you the most money. It’ll also keep your employees healthy and motivated. This is if you want sustainable growth and not just a sudden peak and a subsequent fall.