What is Fixed Compensation and Variable Compensation
Hetvi Vashi
Author
An employee's Cost-to Company (CTC) consists of fixed compensation and variable compensation offered as a part of the employment with the company. Along with salary, several companies also provide employee benefits such as health insurance. (can internal link) The fixed salary is specifically structured and varies according to the number of years of experience at different jobs, whereas the variable pay is dynamic and offered as per the performance of the specific company. Let’s explore more on the differences between fixed compensation and variable compensation.
Key Differences between Fixed Compensation and Variable Compensation
| Sr. No | Point of Difference | Fixed Compensation | Variable Compensation |
|---|---|---|---|
| 1 | Meaning | Fixed compensation refers to the monthly salary paid to the employees which is a specific amount pre-decided at the onset of the job tenure. | Variable compensation is an additional payment that is dynamic in nature varying according to the employee’s performance or the overall profit made by the company. |
| 2 | Performance Efficiency | The employees receive a fixed salary every month irrespective of productivity and performance efficiency. | The variable pay depends on several factors such as the performance and productivity of the employees. |
| 3 | Components | The fixed compensation consists of basic pay and other elements such as dearness allowance, house rent allowance, leave travel allowance, other allowances for food, fuel, and internet along with contribution to the Provident Fund. The components of fixed salary can vary according to the type of company, level of seniority, and job profile. | Variable pay consists of incentives paid as per achievement of targets, bonuses paid quarterly, half-yearly, or annually based on performance, recognition awards and vouchers, and ESOPs. |
| 4 | Security | With a fixed salary, the employee feels secure about a specific amount received after working for the whole month. | As variable pay is not specific and changes according to performance and profit earned by the company, there is no security for employees with variable compensation. |
| 5 | Frequency | The employee receives a fixed salary every month with the required break-up. | Employees may have a dynamic frequency of receiving variable pay. It can vary from monthly, to quarterly, in six months, or annually based on the format. For example, a bonus could be quarterly based on performance, but ESOPs have a preset guideline, with the first 25% of the preset amount granted after one year of tenure. |
What is Fixed Compensation?
When considering CTC, the fixed compensation or fixed salary is paid to the employees every month in exchange for the service provided irrespective of their productivity or performance. This amount is pre-decided and mentioned in the offer letter while joining the company. The fixed salary consists of basic pay and other allowances such as house rent allowance, leave travel allowance, dearness allowance, and other allowances for fuel, food, internet, and other utility-based items. The extent of other allowances varies according to the type of company, the nature of the job profile, and the growth of the company. Furthermore, the fixed salary also consists of contributions to the Provident Fund along with Tax Deduction at Source (TDS).
The fixed compensation provides a feeling of security to the employees with the consideration that they will be credited a specific amount every month regardless of their efficiency in completing targets or not. The fixed salary is decided according to the number of years of experience, expertise, level of education, and the last drawn CTC. While working in the same company for a longer tenure, the fixed salary gets reviewed for increments based on the yearly progress and performance level minimum once a year.
Fixed Compensation Structure
The fixed compensation is a consistent payout received by the employees and is fixed at the onset of the job tenure. The fixed compensation is specific and finalized at the onset of the job tenure. The fixed compensation cannot be changed based on individual performance or an increase or decrease in the working hours. The fixed compensation structure consists of basic pay and several other elements varying according to the company. Let’s understand the structure of fixed compensation in detail here:
Basic Pay
The basic pay is the core component of fixed compensation and constitutes around 40 – 50 % of the fixed compensation. This impacts the calculation and allotment of the amount for other components.
Dearness Allowance (DA)
The Dearness Allowance (DA) is the fixed percentage of the basic pay, which especially for government employees has the role of balancing out the inflation. DA could be around 25 – 38 % of the basic pay and the amount changes periodically to align with the market conditions.
House Rent Allowance (HRA)
The HRA or House Rent Allowance is around 40 – 50 % of the basic pay. As a part of a fixed compensation structure, HRA is integrated to provide housing assistance for the employees.
Special Allowance
The special allowance is a flexible component of the CTC and will go beyond the standard allowance. This is the component of the salary structure where companies adjust the additional amount without any neat categorization.
Medical Allowance
This is a small part of the fixed compensation allotted for healthcare expenses of the employee. This could include pharmacy expenses, doctor consultations, or other such requirements.
Conveyance Allowance
The conveyance allowance is a fixed amount allotted to facilitate commuting from home to the office and back for the employees. This is a preset amount for every month and may not exactly reimburse the complete traveling expense. In certain cases, the conveyance allowance also includes expenses reimbursed for work-related travel.
PF contribution
Provident fund (PF) is a fixed contribution from both the employer and employee in equal parts, constituting around 12 % of the basic pay. The employer’s contribution consists of 2 parts – the employee provident fund (EPF) and the retirement pension scheme (EPS).
Other allowances
Some other allowances offered by different companies include Leave Travel Allowance (LTA) to support commute expenses to hometown, food allowance, internet allowance, and fuel allowance.
Health insurance
The health insurance is not specifically a quantifying part of the fixed salary structure but serves the purpose of securing the lives of the employees. The premium for health insurance may or may not be deducted or subjected to a co-pay based on the benefits offered by the company.
What is Variable Compensation
The variable compensation for employees is an additional pay based on performance and efficiency in achieving predefined targets. Variable pay could be in the form of bonuses, incentives, recognition vouchers, and stock options. Variable compensation is a motivation for the employees to exceed regular expectations and recurrently improve performance.
The companies have different policies to calculate the amount of variable pay offered to the employees. The frequency of variable pay is based on the performance varying monthly, quarterly, half-yearly to annually as per productivity and completion of targets. Employees are offered Employee Stock Option Plans (ESOPs) as a part of motivating them with ownership, with the first 25% of the defined amount offered after completion of one year of employment with the company and complete vesting after 4 years of the service.
As the specific timeline for the payout of variable compensation depends on performance and policies, employees cannot completely rely on variable pay like fixed pay for planning personal finances.
Variable comp structure
The variable compensation of an employee is the additional element of the CTC besides the fixed component, and the amount of earnings depends on the employee’s performance, the outcome of specific goals and results. The variable compensation fluctuates according to the individual designation, team, or company achievements. Let’s explore the components of variable comp structure as follows:
Bonuses
Bonus can be considered as a lumpsum amount added to the salary of the employee based on the accomplishment of specific goals. The payout for bonuses depends on the completion of tasks and alignment with the conditions of the company. The bonuses could be given monthly, quarterly, or annually. Sometimes, bonuses could be also issued seasonally or based on the profits earned in a specific financial year.
Commissions
The commissions are generally for sales roles, where the employee will get a percentage of the deal or revenue generated for the company. The commissions are generally added to the fixed salary and motivate the employees to achieve the best numbers and eventually earn the best numbers.
Incentive Plans
The incentives as a part of the variable pay structure incline towards rewards for a specific performance-based target or overall achievements of the organization. The incentives could include a lumpsum amount, shopping vouchers, or even specific items that are valuable or of utility to the employees.
Profit Sharing
The organizations focusing on the broader achievements of the teams or overall, as a company may offer profit-sharing to certain employees as a part of variable compensation. This may or may not be clubbed with the fixed pay, and specifically fluctuates according to the bottom-line numbers of the company.
ESOPs or Equity shares:
Several organizations offer Employee Stock Ownership Plans (ESOPs) as a part of variable compensation along with fixed pay to ensure the employees feel a sense of ownership with the company, which might reflect in their work ethics and commitment, thereby giving better performance. This is a common practice in early startups to have quality talent within the company budget. Several established companies may offer Equity shares at a lower cost than the market rate as a part of variable pay.
Fixed Compensation and Variable Compensation – Example
Let’s understand fixed and variable compensation with an example of Mr. Karan who works as a Marketing manager at a reputed MNC.
Fixed Compensation:
Basic Pay: ₹ 25,000 per month
House Rent Allowance: ₹ 12,500
Dearness Allowance: ₹ 5,000
Conveyance Allowance: ₹ 2,000
Special Allowance: ₹ 5,500
Mr. Rahul’s fixed compensation also consists of a contribution to the Provident Fund, which is as follows:
Employee PF contribution: ₹ 3600
Employer EPF contribution: ₹ 1,101
Employer EPS contribution: ₹ 1250
Variable Compensation:
When Mr. Rahul joined the company, his offer letter mentioned variable pay in the form of a bonus for every successful marketing campaign completed by him. He has worked on 10 campaigns in 12 months, and variable pay for each campaign comes up to ₹ 8500.
Total bonus paid = ₹ 85,000
Further, he also received a recognition voucher of ₹ 15,000 for completing 10 campaigns in one financial year.
Total variable compensation received = ₹ 100,000
Conclusion: The fixed compensation and variable compensation along with other benefits form the CTC for an employee for the company. When an employee joins the company, he/she gets an offer letter that gives clarity on fixed compensation to be given every month and specific details on the exact amount of variable pay which includes the amount, frequency, defined targets, other conditions, and company policies around it. The fixed compensation drives security for the employees and the variable compensation motivates the employees to perform better and follow a result-driven approach.
Frequently Asked Questions
Explore moreWhat is the difference between fixed and Variable Compensation?
The key difference between fixed and variable compensation is based on the frequency of payout and the parameters of performance. Fixed pay is provided every month regardless of any target completion, whereas variable pay is performance-driven and paid according to the conditions specified while joining the company.
What is Fixed comp and variable comp meaning?
Fixed comp or fixed compensation is the specific amount of salary received by the employee every month regardless of the performance as mentioned in the offer letter at the onset of the employment. Variable comp implies additional income along with fixed pay depending on the performance, team, or company achievements which have a weekly, monthly, quarterly, or annual payout.
Do you have more questions?
Contact us for any queries related to business insurance, coverages, plans and policies. Our insurance experts will assist you.
