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What is a compensation philosophy? What should be included in a compensation philosophy?

A  compensation philosophy is simply a formal statement documenting the company's position about employee compensation. It explains the "why" behind employee pay and creates a framework for consistency. Employers use their compensation philosophy to attract, retain and motivate employees.

Compensation philosophies are typically developed by the human resources department in collaboration with the executive team. The philosophy is based on many factors, including the company's financial position, the size of the organization, the industry, business objectives, market salary information, the level of difficulty in finding qualified talent, and the unique circumstances of the business. The compensation philosophy should be reviewed periodically and updated based on current factors affecting the business. For example, market conditions may make it difficult to find qualified talent in a particular specialization, and an employer may need to pay a premium for these candidates. If the employer's current compensation philosophy does not support this value, then the organization may need to change its philosophy to meet its current needs.

A well-designed compensation philosophy supports the organization's strategic plan and initiatives, business goals, competitive outlook, operating objectives, and compensation and total reward strategies.

Most compensation philosophies seek to:

  • Identify the organization's pay programs and total reward strategies.
  • Identify how the pay programs and strategies support the organization's business strategy, competitive outlook, operating objectives and human capital needs.
  • Attract people to join the organization.
  • Motivate employees to perform at the best of their competencies, abilities and skill sets.
  • Retain key talent and reward high-performing employees.
  • Define the competitive market position of the organization in relation to base pay, variable compensation and benefits opportunities.
  • Define how the organization plans to pay and reward competitively, based on business conditions, competition and ability to pay.
  • Ensure equal pay for equal work, with allowable pay differences based on factors not prohibited by law.

An effective compensation philosophy should pass the following quality test:

  • Is the overall program equitable?
  • Is the overall program defensible and perceived by employees as fair?
  • Is the overall program fiscally sensitive?
  • Are the programs included in the compensation philosophy and policy legally compliant?
  • Can the organization effectively communicate the philosophy, policy and overall programs to employees?
  • Are the programs the organization offers fair, competitive and in line with the compensation philosophy and policies?

While HR is clearly in the lead in developing an organization's compensation philosophy and policy, success lies in collaboration with the leadership team to obtain valuable input, direction and buy-in.


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