Compensation is what employees receive in exchange for their contribution to the organisation. Generally, employees offer their services for three types of rewards. Pay refers to the base wages and salaries employees normally receive. Compensation forms such as bonuses, commissions and profit sharing plans are incentives designed to encourage employees to produce results beyond normal expectation. Benefits such as insurance, medical, recreational, retirement, etc., represent a more indirect type of compensation. So, the term compensation is a comprehensive one including pay, incentives, and benefits offered by employers for hiring the services of employees. In addition to these, managers have to observe legal formalities that offer physical as well as financial security to employees. All these issues play an important role in any HR department’s efforts to obtain, maintain and retain an effective work force.
Nature of Compensation
Compensation offered by an organisation can come both directly through base pay and variable pay and indirectly through benefits.
i. Base pay: It is the basic compensation an employee gets, usually as a wage or
ii. Variable pay: It is the compensation that is linked directly to performance accomplishments (bonuses, incentives, stock options)
iii. Benefits: These are indirect rewards given to an employee or group of employees as a part of organisational membership (health insurance, vacation pay, retirement pension etc.)
Objectives of Compensation Planning
The most important objective of any pay system is fairness or equity. The term equity
has three dimensions.
i. Internal equity: This ensures that more difficult jobs are paid more.
ii. External equity: This ensures that jobs are fairly compensated in comparison to
similar jobs in the labour market.
iii. Individual equity: It ensures equal pay for equal work, i.e., each individual’s pay
is fair in comparison to others doing the same/similar jobs.
In addition, there are other objectives also. The ultimate goal of compensation Establishing Pay Plans
administration (the process of managing a company’s compensation programme) is to reward desired behaviours and encourage people to do well in their jobs. Some of the important objectives that are sought to be achieved through effective compensation management are listed below:
a. Attract talent: Compensation needs to be high enough to attract talented people. Since many firms compete to hire the services of competent people, the salaries offered must be high enough to motivate them to apply.
b. Retain talent: If compensation levels fall below the expectations of employees or are not competitive, employees may quit in frustration.
c. Ensure equity: Pay should equal the worth of a job. Similar jobs should get similar pay. Likewise, more qualified people should get better wages.
d. New and desired behaviour: Pay should reward loyalty, commitment, experience, risks taking, initiative and other desired behaviours. Where the company fails to
reward such behaviours, employees may go in search of greener pastures outside.
e. Control costs: The cost of hiring people should not be too high. Effective compensation management ensures that workers are neither overpaid nor underpaid.
f. Comply with legal rules: Compensation programmes must invariably satisfy governmental rules regarding minimum wages, bonus, allowances, benefits, etc.
g. Ease of operation: The compensation management system should be easy to understand and operate. Then only will it promote understanding regarding payrelated matters between employees, unions and managers.

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