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There are multiple reasons why people work, including: having a sense of fulfillment, personal growth, professional progress, making money, achieving an exciting career, and exercising one’s skills and talents. And while the exact reasons for working are highly dependent on the worker, perhaps there is one reason why people generally work and that is compensation. 

What is compensation? 

Compensation is the aggregate monetary and non-monetary value given to an individual in exchange for their work and services as required. Simply put, compensation is a worker’s regular salary or hourly pay. It also includes other kinds of additional compensation in the form of overtime, bonus, health insurance, retirement benefit, stock options, and other benefits. 

The way that organizations develop and set their employees’ compensation is based on several factors like business goals, resources, and the marketplace. Although companies can set compensation according to these factors, employee compensation must be governed by local, state, and federal laws. Collectively, these laws determine the following: 

How do organizations use compensation? 

If you are a business owner, you know that how much you pay your employees can influence their job satisfaction, morale, and work performance. Organizations understand the value of compensation and its effect on work. They recognize it as a tool that can serve many purposes. Here is a list of how organizations use compensation: 

Are there different types of compensation? 

Yes, compensation can take many forms. If you are a business owner, it is essential that you understand the different types of compensation so that you know exactly what you are paying workers for their services. Similarly, workers must also understand compensation so they know what they are getting. 

Getting into detail about compensation may be daunting at first. It is always best to understand the value being given to an individual’s work. No matter the amount of compensation, it’s important to understand these things. 

The two primary types of compensation: direct and indirect. Let’s go into them individually. 

  1. Direct Compensation:
    1. Hourly: this is a dollar amount per hour that is paid to workers, both skilled and unskilled. There is usually no guarantee of a specific number of work hours per week. 
  2. Salary: the most common form of compensation; a salary is typically set as an annual amount which is then divided by weeks or per pay period. 
  3. Overtime Pay: the FLSA requires employers to pay time-and-a-half (1.5x the employee’s normal hourly wage) for non-exempt employees who worked over 40 hours in one workweek. While this is the federal guideline, some states have higher additional overtime and labor laws.
  4. Commission: this is most often the direct compensation found in sales jobs. Commissions are the most variable because it is based on the volume of sales or standard performance. Another name for this is piecemeal compensation. Examples of industries that have commission-based compensation are real estate, sales, and auto dealerships. 
  5. Tips: tips are common in the U.S., especially in service-oriented industries like restaurants and salons. The amount of tip depends on the customer and is not influenced or dictated by the employer. 
  6. Bonuses: they are also considered variable pay but are not just applicable to the sales industry. A bonus is often used by organizations as a means of incentive and rewarding employees. It can be offered annually, such as a year-end bonus, quarterly, or even more frequently upon the discretion of the business. This is a way of rewarding employees for their work efforts and performance. 
  7. Indirect Compensation
    1. Insurance benefits: these can take several forms like health, dental, vision, life insurance, and disability. 
  8. Retirement benefits: a type of benefit that is typically offered by both small and large employers. 
  9. Incentives: these can vary from employer to employer and can be anything such as a company car, company-paid gym membership, or company-paid mobile phone. 
  10. Equity-based program: this is a more complex type of indirect compensation where an employee has a percentage of ownership based on stock options. The more successful the company is, the higher the value of the stock. 
  11. Other benefits: Paid Time Off (PTO), vacation time, transportation discounts, and other similar benefits.

What is a compensation package? 

A compensation package is the total compensation statement offered to an employee in exchange for their work. It refers to a combination of direct compensation, indirect compensation, and other benefits. Such benefits can include relocation expenses, employee assistance, tuition reimbursement, and any other opportunities. 

What is nonemployee compensation?  

Nonemployee compensation is also called self-employment income. It refers to compensation that is paid to independent contractors, not employees. Employers do not withhold income taxes and deductions from nonemployee compensation.

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