Small business owners considering alternatives to a fixed salary will come across sales commissions. They are prevalent in retail setups. However, business owners need to understand sales commissions and their structures.
With good execution, sales commissions could improve various aspects of the business, including profits and employee retention. The information below should shed light on this topic and related questions to help business owners develop and run successful sales commission structures.
What Are Sales Commissions?
A sales commission is compensation paid to an employee based on the number of sales generated. It is often a percentage of the sales paid on top of a basic salary and sometimes in place.
There are many variables that business owners can use to determine sales commissions. It could be based on the frequency of sales, the total number of sales, and how well they perform.
Business managers who offer sales commissions often want to encourage employees to generate more sales in a given period. Some people find sales commissions advantageous because it allows employees to control how much they make, thus giving them financial flexibility.
Jobs that often offer commission payments include real estate, sales, stockbrokers, recruiting, and finance. Companies can make commission pay monthly, quarterly, and annually.
Difference Between A Salary And A Commission
A salary is a fixed income in that the number does not change. An employee receives regular wages weekly, biweekly, or monthly. A commission is an amount an employee gets on top of the basic salary or in place of it. The commission varies depending on factors such as the number of sales made or total sales.
The difference between gross and net sales is the total amount of sales transactions in a given time, such as a week or month. Net sales, on the other hand, are gross sales minus sales returns, discounts, and allowances. Therefore, commissions are based on the total sale amount or gross sales.
The 3 Types Of Commission
This type of commission pays the employee per their sales. The employer will calculate the employee’s sales commission by evaluating how much the employee sells.
For example, if an employee’s total sales amount to $1000 in a week and they earn a 15% commission on total sales, the employee will earn $150 that week.
This sales commission is often beneficial for motivated salespeople. They can control how much they make, which can be higher than their basic salary, depending on the commission percentage. It is common among real estate agents.
However, during slow periods, the amount can significantly reduce. Thus, any employee on straight commission may face a financial crisis. Therefore, employees should budget the money from straight commission to compensate for slow periods.
In graduated commission, an employee earns a percentage of the sales. This percentage increases incrementally with the increase in the sales volume. By improving their sales performance, an employee moves up a level, thus improving their overall performance.
The table below is an example of this form of commission:
|Revenue Generated ($)||Net Commission (%)|
|100,001 – 200,000||24%|
|200,001 – 400,000||36%|
|400,001 and Above||48%|
This form of commission pays the employee based on the amount of work they produce. An employee gets paid per piece of work they finish or per sale made.
For example, an employee can receive $20 for every item they sell. So, if they sell 10 items in a single week, the employee will earn $200.
It is also worth noting the following types of commissions:
- Salary plus commission. An employee receives commissions on top of a basic salary. It is beneficial as there is a guaranteed income regardless of sales made. Commission calculations often depend on the business owner.
- Draw against commission. The employee receives a specific amount of money when they begin their work. This amount is the ‘draw.’ When the employee sells more than the amount, it is their salary. And anything more than the amount is their commission. However, failure to reach the amount means the employee must give back the amount.
- Residual commission. It is the money that an employee earns after a customer makes their first purchase. The employee receives a commission percentage as long as the client continues to purchase with the company. It is common among real estate and insurance agents.
- Team-Based Incentives. Some employers offer commissions based on a team’s success to encourage teamwork. When the team reaches a certain goal, they receive a commission, shared equally among team members. It is a healthy way to develop competition among multiple teams in the same field.
Good Commission Structure For Sales
Business managers must develop an effective sales commission structure. The right structure should align with company goals. It can improve sales, ensure business owners retain the best talent, and give employees financial flexibility. Sometimes, it can even bring a team together and help move specific products over a while.
There are many types of sales commission structures available for various business owners. The base salary plus commission plan is the most commonly used and often considered the best.
The employee receives a base salary plus a commission based on the percentage of their total sales. The employee can also receive their commission based on their performance or ‘per piece’ sales made in the determined time.
For example, an employee can receive a monthly salary of $300 plus a 10% commission on sales. If the employee makes sales of $1500, they receive an additional $150 on top of their base salary of $300. In that month, the employee will make a total of $450.
This sales commission plan is favored because it is ideal for retaining employees. The company is actively investing in the skills of a salesperson. Not only does it encourage financial freedom, but it also improves the bottom line.
Advantages of Base Salary Plus Commission Plan
Better employee performance
Business managers who want to improve their current employees’ sales performance can benefit from this structure. It motivates the employees to earn more. Some employers even offer higher commission rates with the consistent meeting of quotas. With the greater potential to earn more, employees will work harder.
Fall-back plan in low sales
Employees on a basic salary plus commission plan enjoy the benefit of a base salary in the event of low sales. Companies can have low sales during a specific time of the year. In that case, employees can fall back on the base pay to support them financially. That is why business managers need to provide a good base salary.
Effective motivation for professional growth
Commission-based payment can help sales representatives significantly improve their skills, thus triggering professional growth. It is a chance for employees to build their selling and speaking skills. With the potential of increasing their income, employees will go the extra mile to work on their skills to bring more income.
Pay only when making money
This is an ideal setup for small businesses. The commission only comes if the employee has reached their sales quota. So the income from these sales is what business managers use to pay commissions. No sales mean no commissions.
Disadvantages of Base Salary Plus Commission Plan
Minimal base salary
The base salary may be too low to provide enough support to the employee in the event of too low sales. Often employers offer a low base pay with a high commission rate. It can be good during peak sales and bad during low sales.
Complex commission guidelines
It can be challenging for employees and employers to determine the income if the commission guidelines are too complex. This can lead to late or missed payments, affecting employee retention.
Other times, the commission rate may be too low to make an impact. For example, a commission rate of 1% on total sales is not enough to motivate or boost employees’ salaries.
Employers that have an adaptive payroll system do less work in the calculations and payments of sales commission. Workpay HR and Payroll assists business to calculate the right taxes and create a payment plan that works for both the business and the employees. Reach out today to learn more.