Types of Sales Commission Structures
A company’s sales compensation and commissions are one of the most important aspects of your sales vertical. The structure you put in place is critical to ensure the overall efficiency and effectiveness of the sales representative. A well-defined structure also helps to retain top-performing sales talent as the turnover in the sales vertical of an organization typically thrice of the other verticals.
Although important, the sales compensation and commission structure should be simple. It should help bring transparency and clarity in the process as it acts as one of the biggest motivating factors for the sales team.
Compensation strategies
The compensation structure for the sales vertical depends upon the type of industry you are operating in. The following are the 2 major strategies generally followed.
100% commissions
In such a compensation strategy the entire salary for a sales representative is comprised of the commissions earned.
There is no fixed or base salary thereby bringing in a high element of risk for the sales representative. The upside, however, is that the earning potential is quite high and directly proportional to business booked and milestones achieved. This also provides the flexibility of work for the representatives.
This kind of model is ideally suited for businesses that are highly standardized or where the majority of the sales happen via personal networks.
Base salary plus commissions
The most popular compensation structure in the sales organization is that of a base salary plus commission.
This structure provides a sense of financial security to the representatives along with the motivation to close deals. However, since there is no undue pressure even if some deals do not go through, it eventually proves helpful for the customers as well.
On the other hand, businesses also benefit from such a structure as it helps in bringing visibility on sales payouts. A very standard salary to commission ratio is 60:40, where 60% is base or the fixed salary component and 40% is a variable component.
There are a few other models of structuring the compensations as well. For example, the ‘base rate’ wherein the sales representatives are paid an hourly flat rate for their work. However, the ‘base rate’ and other models are not quite popular and rarely used in the industry.
How to structure a commission plan
Be it the 100% commission plan or a base salary plus commission plan, there is a need to define as to how should the commissions be calculated. The following are some of the most frequently used plans.
Absolute commission plan
The method, where the commission is calculated based on the number of deals closed or the number of clients onboarded, is the absolute commission plan.
Essentially, it means that you land one customer or close one deal and get a flat out a commission of say $ 5000. This model is generally preferred when the amount earned by the business is dependent upon the number of customers and not directly on the product’s price point.
Revenue commission plan
One of the most popular models to calculate plans is the revenue commission model. It is generally with the companies that sell products with defined price points.
In this model, essentially the representative earns a commission on the revenue generations for the organization. For example, if the sales representative sells a $10,000 product or service, they get, say 5% of that in commission ie. $500. It is simple to calculate and rewards high achievers.
Gross Margin commission plan
A similar model to that of the revenue commission is that of the gross margin commission plan. In this model, the commissions earned are calculated on the gross margin of a product or service sold rather than just the revenue.
Essentially, if a sales representative sells a $ 10,000 product or service with a $ 2000 gross margin and a gross margin commission of say 20%, the commission earned on selling is that of $ 400. This model encourages the sales representative to focus on selling the high margin products as well as not offering any unnecessary discounts which may chip away the margins.
Tiered commission plan
In a tiered commission model, a sales representative is paid increasing commissions as they keep selling more. Quotas are decided for a particular commission rate before the new rate kicks into the picture.
For example, the sales representatives may earn a 10% commission on sales up to say $ 50,000 in revenues. Once they pass this quota or milestone a new rate of 15% commission on sales may be applicable for the additional revenue brought in. A tiered structure encourages sales representatives to put in extra effort by providing higher commission as they hit substantial sales quotas.
Relative commission plan
The relative commission plan is a quota or target based commission plan. The commission which a sales representative may earn is directly proportional to the quota achieved.
For example, if a representative completes 80% of the quota, he gets 80% of the commission decided. Both the numbers of the quota and commission are decided and can be changed by an organization from time to time to better suit the business priorities.
Apart from the ones mentioned here, there are a few other plans to structure commissions which are neither popularly used nor easy to implement.
For example, the ‘Commission draw model’ wherein the sales representative receives a base amount fixed every month. And if they earn less in commissions than the draw amount, they’ll keep their commission in addition to the difference between the draw amount and the commission.
Commission payouts
Once the compensation structure and the commission models are finalized all that remains to do is to finalize the payout frequency of the said plans. This gives the sales representative the exact idea of when the commission amount will be earned.
Commission payouts generally depend upon how long the sales cycle is. Longer the sales cycle, less is the frequency with which commissions are released. This is for the simple reason that it will take a sales representative longer to close a deal and book a commission.
Typical commission payout frequencies are monthly, quarterly, half-yearly, and yearly.
Elevate is on a mission to simplify sales commissions for growing sales teams.
We are currently in beta mode and we support leading CRM tool integrations. Register here to join our waitlist.
