Our intention is to build a hub where you can get up-to-speed on everything you need to do during the salary budgeting process. You can quickly skim the guide or navigate to specific items in order to get detailed “how-to” information. We will link to existing resources on our website throughout this guide.
Five Key Steps That Need to Happen During Your Salary Increase Budgeting Process
- Identify and manage pay inequities (by completing a market study and a gender/racial pay audit)
- Develop solutions for your pay inequities
- Calculate how much addressing your pay inequities will cost
- Prepare summary budget report
- Present your budget request to finance for approval
1. Identify and Manage Pay Inequities
Pay inequities can exist at multiple levels, from the organizational down to the individual level. You’ll want to start at the organizational level to determine 1) whether your organization is paying fairly to the market, 2) whether your ranges are competitive with the market.
The way to identify pay inequities is to do a market study (or to benchmark your jobs to the market). To ensure relevant results in your market study, you’ll need to keep three things in mind:
- Price to the job, not the employee. Pricing by the job requirements will help you identify the midpoints of your ranges; employee skill sets and experience will determine their positions within the range.
- Make sure your job descriptions are up-to-date. You need to know your positions really well in order to get reliable market data to appropriately benchmark your jobs. Go beyond just title matches to match the key responsibilities and tasks for your benchmarking jobs.
- Use reliable sources of data. Make sure the data is not only fresh, but also covers your appropriate competitive set. It should also have transparent methodology (so you can explain to your execs and managers as needed).
To determine if you’re paying fairly to the market, you’ll compare your pay for your full organization to the market (at the targeted percentiles you’ve determined in your compensation strategy).
The key metric to look at is the market ratio. This compares employee pay to the market values for a position to which they’re assigned, at the target percentile. A market ratio of 1 says you’re paying at market values. A market ratio below .8 says you’re paying low to the market; a market ratio greater than 1.2 says you’re paying too high to the market.
Then, you’ll want to check how your current structure is holding up relative to the market. For example, see how close or far your range midpoints are from the market values for your positions.
Key metric to look at: If your range midpoints are, on the whole, more than 3 percent different from the average market values for your jobs, you may be out of alignment with the market. This can mean that some jobs have shifted significantly over the past year.
Departmental level inequities
Next up, you’ll want to examine if you’re paying fairly across departments.
Position level inequities
As a next step — and this is a critical one a — you want to check for position level inequities. In other words: Have some of your positions moved faster in the market than others? In today’s volatile market, from year to year some positions may move as much as 10 percent or more, while others may stay still and yet others may decline.
The key metric to look at is the comparison between the range midpoints and the market values for each position. Make note of positions where there is a large spread between the figures. For these positions, you will need to consider ways to adjust employee pay in those roles. In today’s hot job market, employees know when they have in-demand skills and they will pose flight risks to your organization if they aren’t appropriately compensated for the skills they have.
Individual level inequities
To identify individual level inequities, the questions to answer are: Are we paying our employees fairly based on our compensation strategy and their Equal Employment Opportunity status?
Typically, individual level inequities show up in two ways. First, organizations can lose track of their pay strategy when they bring in newer incumbents who are paid at or near the wages as longer tenured employees. For more details, read this article for a guide on how to address pay compression.
Second, check on a regular basis to make sure you’re paying fairly across gender, race and ethnicity. In other words, you need to be able to answer these questions:
- Are all females / people of color are paid similarly as males / white workers when both groups are doing comparable or similar work?
- If you have male and female workers with similar profiles who are doing similar work, are both groups assigned to the same pay grade / job level?
If the answer is “no” to either question, you have a potential gender/racial inequity that should be addressed right away.
For more guidance on how to identify pay inequities, check out these resources:
- Your Pay Equity Action Plan (whitepaper)
- How to Identify Gender Pay Equity Issues with PayScale Reports (blog post)
2. Develop Solutions for Your Pay Inequities
At each level of the organization, and for each inequity you identify, you’ll want to determine a way to resolve the inequity.
The biggest concern is the legal one. If you have identified any compliance-related inequities, the only solution is to resolve them immediately. Beyond that, you’ll need to determine the impact pay inequities have on retaining top talent and employee engagement and morale. Be sure to develop multiple strategies for how you intend to resolve the inequities. For example, is it possible to absorb the inequities into this year’s increase budget, or is the amount so large that may take multiple years to resolve? Consider how critical it is to resolve the inequities immediately.
For more details on what options you have for addressing pay inequities at every level and how to weigh the benefits vs. the risks of each option, check out our guide on Compensation Budgeting.
3. Determine how much the solutions for your pay inequities will cost
Now, you’ll want to calculate how much it will cost to rectify the pay inequities you’ve identified. The three key numbers to look at include:
Range adjustments – do you need to adjust your comp plan ranges to stay current to the market? If so, by how much? To stay competitive in your market, you’ll want to examine your ranges on an annual basis to confirm that they remain relatively aligned to market values on the whole. Typically, ranges move every 2-3 years. However, how often you want to adjust yours will depend on your org size, industry and compensation strategy.
Market adjustments – how much do you need to budget to give pay increases for jobs that are moving fast in the market? Do you want to do a semi-permanent change (adjust the pay range for these positions) or a more temporary fix (market premium bonus)?
At the position level, the way that you would correct inequities would be to make market adjustments. You’ll need to think about which approach works best for your organization. On one hand, you can make a market adjustment by moving a position to a new grade. In that case, the budget question to ask would be the cost of ensuring that all incumbents are within range for the new grade.
Alternately, you could keep the position in the same grade and offer that employee a market premium, or a bonus payment. This could be the better option if the employee is in a job that may be temporarily high relative to the market (but may come down in the future). This way, you can both encourage retention of those employees and mitigate the risk of overpayment in the future.
Equity adjustments – do you have any compliance or compression issues you need to fix at the employee level, or other ways that you may not be paying fairly according to your plan? In these cases, you would want to make equity adjustments to employees who were affected.
For more details on how to approach making these adjustments and how to calculate the costs, check out our Budgeting Guide.
4. Add Your Base Pay Increase Amount to the Budget
After budgeting the pay inequities that you may have identified in your organization, you’ll then determine the pay increase amounts. Typically, your CFO has already provided high level guidance on this figure. It’s usually a percentage of the total salary budget (often 3 percent or 4 percent).
A note about red-circled employees
In the past, HR professionals have asked us whether they should accounting for red-circled employees (workers with pay above the range maximum) in their budget.
As for employees whose pay is already at the top of the range, there’s no hard and fast rule as to what to do. What you do will depends on how you budget, how you want to handle these employees and how closely you follow your budget. For example, some organizations allow managers more discretion to allocate their budget as they see fit. In that case, it would be up to the manager to decide if they want to reward someone in the red. Alternately, you may decide to simply keep the 3% (or whatever amount that came from your CFO) in your base pay increases line item, and then for those in the red, convert their increase portion to a results-contingent bonus when it comes time.
To get more details on how to calculate pay increases, check out this article. Or let compensation management software do the work.
5. Prepare Summary Budget Report
Next, you’ll want to prepare your summary compensation budget request in the form of a report.
You’ll put the adjustments you want to make (Step 3 and Step 4) into a single summary report.
Below is an example that represents an organization of about 250 employees with an average pay of $80,000.
How to Present Your Budget Request to Finance for Approval
If you would like to ask for a bigger budget so that you can get every employee within range and fulfill your compensation strategy and give certain high performers greater than typical merit increases, you’ll need to be prepared to present your case.
The key here is to give Finance multiple options — the one you want and the one you don’t want. And you need to prove to them that you have their mandate (to control costs) in mind when you present your alternatives. Before you even talk to Finance, think through the following:
In a worst-case scenario, are the “underpaid” employees worth retaining?
- What is the likelihood that this person is going to leave if they don’t get a raise?
- If the likelihood of this person quitting is high, what are the consequences for the team/department/business if the person does quit?
Make sure you explain the consequences in terms of hard costs and soft costs. Hard costs include loss of productivity during backfill phase, getting the new employee ramped up and productive, and recruiting costs. Soft costs include things like lower employee morale and engagement and opportunity costs for the team and manager.
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