How Should You Determine An Employee’s Salary?

As a business owner, one of the trickiest things to manage is employee salaries. Everyone knows that giving and receiving the right pay helps keep the organization well-balanced and well-functioning.

Determining salaries isn’t so complicated when you’re handling just three people. Things get a bit more complicated once your business grows beyond 20 employees. So, how do you determine employee salary?

Pricing salaries can be done through benchmarking (using industry rates as a basis), job evaluations (considering job complexity, skills, and responsibilities), or a combination of these. Salary rates will also have to work with the company’s budget.

As Philippine HR consultant Caroline Orani of CorporateNuances says in her book, Master the Multinational Workplace, “Having a scientific salary structure prevents salary disputes, helps the company estimate manpower costs for budgeting, and ensures pay levels are reasonable within the company and competitive in the industry.” Let’s dive into the ways how to establish salary ranges for your employees.

It’s all about grades

To establish a salary structure, determine the pay grades in your organization. Pay grades are the basis for salary ranges of different positions within the company.

Some organizations start with job ranks and create pay grades for each rank. Others create pay grades then determine which positions fall into each grade. For SMEs, it’s usually easier to start with the positions and rates, then classify the salary ranges into pay grades.

Establishing pay grades is important because it defines the minimum and maximum salary ranges. This lowers the chances of salary disputes. It also helps keep salaries within reasonable limits.

So how many pay grades should you have? It depends on the industry and the size of your company. A good place to start is with your organizational chart. Look at the number of functional levels in your organization – these will more or less correspond to your pay grades. Businesses with less than 50 employees would typically have four or five pay grades.

Not quite easy as 1-2-3

Setting up a salary structure isn’t rocket science. But it’s not as simple as punching numbers on a calculator, too. Below is a step-by-step process to establish pay grades and compensation rates, loosely based on Caroline Orani’s book.

1. Identify the number of pay grades your company will have. How different are the roles in terms of skills, experience, and responsibility? What’s the vertical distance between the lowest position and the highest position, in terms of job levels? The answer to these questions will help determine the number of pay grades you need.
2. Use minimum wage as the baseline for lowest rank.
3. Identify the pay range per grade. A grade can be identified as a job rank. Examples are rank & file, assistants, and managers.  Within a grade, they can receive different salaries. You can identify these as minimum, average, and maximum. Find out the percentage pay gap between minimum and average, and between average and maximum. This is usually between 10 and 20% per tier.
4. Price the next grade or job rank 30 to 50% more than the maximum of the previous grade. The range within a grade is as per #2 method (10-20% gap).
5. Identify which positions fall within each pay grade. Use existing salary data or external benchmarks as the basis for grading. Some positions may fall in-between grades. When that’s the case, use your judgement to classify jobs based on skill level and responsibilities.
6. Establish and adjust current salaries to fit your new pay structure. Always consider how fair the salaries will appear to other people and not just to the employee concerned. Some of your employees may even  get a pay raise because of this exercise.
7. Calculate your total payroll and review the numbers based on your budget. Do you need to scale back? Identify which roles can be moved to a different pay grade. Are you below budget? Consider creating one-time benefits such as a performance bonus for your best workers.

Let’s get real

How would this look like in an organization with 30 employees? Here’s a table that shows monthly rates for four pay grades, rounded up to the nearest ten pesos. In this example, the difference between the minimum and average pay is 10%. The difference between grades is 30%.

As you work on your pay structure, always remember that these figures are not set in stone. Salaries need to be adjusted on an annual basis due to inflation, government regulations, and other economic factors.

Also, be prepared for salary negotiations from your employees. Having a salary structure actually helps in those conversations. Because you already know the minimum and maximum pay your company can afford, you’ll know how to set salaries and offer the right amount.

Established pay grades also help employees feel that their salaries are carefully considered and not just plucked out of thin air. Business owners have a responsibility to deliver fair pay to their employees. A well laid-out salary structure can help achieve that.

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