Looking for a sustainable pay system? Step-rate compensation may be a step in the right direction—no pun intended. Read on to learn what step-rate compensations are, their pros and cons, and things you should consider prior to implementing.

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What Is a Step-Rate Compensation Structure?

Typically found in union and government work environments, a step rate-compensation structure presents the pay rate associated with each position (or a family of similar positions) and how it will increase incrementally over time (in steps).

Organizations use step-rate compensation structures to ensure pay equity. For example, employees are paid based on the job performed and seniority rather than as individual employees.

The contrasting model is pay-for-performance compensation structures, which ties one’s salary/wages to a metric driven by performance outcomes, such as work efficiency.

Click here to see an example of a step-rate compensation structure.

Should Companies Use a Step-Rate Compensation Structure?

Deciding to implement a step-rate compensation structure is contingent upon your organization’s needs and the outcomes you are trying to accomplish. There are pros and cons to implementing such a strategy.

Pros of Step-Rate Compensation Structure

  • Cost control. Cost control is a sure way of keeping your organization’s financial health in shape. Step-rate compensation structures allow for solid management and administration of compensation expenses, limited to incremental increases in employees’ pay through the salary range related to their job titles.
  • Administration. Step-rate structures are easy to administer due to the predetermined rate; therefore, there is no need to measure performance otherwise, such as quotas or other goals.
  • Communication. Because steps are pre-determined based on years of service, step-rate compensation structures are easy to understand and communicate.
  • Recruitment and retention. Potential employees can clearly understand what they’ll be earning and how much can be earned over a period of time.

Cons of Step-Rate Compensation Structure

  • Performance and skills. Unlike pay-for-performance compensation models that are tied to an employee’s success in meeting certain goals, it may be difficult to identify those who are high performers vs those who are not.
  • Assumptions. As step-rate compensation is tied to an employee’s seniority, the model assumes that the longer the employee is employed with the organization, the more competent (and thus valuable) they are.
  • Flexibility. Step-rate compensation plans have little to no room for flexibility. Employees are locked into the same rate systems; therefore, managers have no flexibility to reward employees who are performing well.
  • Cost control. A manager has limited ability to make distinctions based on an employee’s performance and skills for certain positions.
  • Demotivation. Employees have no incentive to improve knowledge, skills, or performance.

Step-Rate Compensation Structure Considerations

Here are a few items to consider before implementing a step-rate structure.

Unions and Collective Bargaining Rights

Collective bargaining agreements (CBA) are written legal contracts between an employer and a union that represents employees.

Because these agreements lay out the terms and conditions of employment that include wages, benefits, scheduling, and other conditions of employment, organizations in which employees are unionized must consider the collective bargaining rights of those employees before implementing (or changing) a step-rate compensation structure.

Change

Organizational change is the nature of doing business. However, how organizations implement that change contributes to your employees’ level of trust.

For many, wages are a highly sensitive subject. Evaluate how employees will be impacted. Consider how you will communicate this change; for example, explain why the change is taking place, discuss the changes in dollar amounts versus percentages, and be prepared to answer questions.

Legislation

The Fair Labor Standards Act (FLSA) establishes minimum wage, overtime pay, recordkeeping, and youth employment standards affecting employees in the private sector and federal, state, and local governments. In addition to federal legislation, organizations should also consider state and local legislation that may have specific wage and hour regulations that are more generous than federal legislation when implementing a step-rate compensation structure.

How to Implement a Step-Rate Compensation Structure

Step 1: Create a Compensation Philosophy

According to the Society for Human Resources Management (SHRM), A compensation philosophy is simply a formal statement documenting the company’s position about employee compensation. It explains the ‘why’ behind employee pay and creates a framework for consistency.

An example of an organization’s compensation philosophy can be found on retailer Target’s website: “We also understand the importance of providing equitable experiences, inclusive of pay, based on their experience, expertise, and position. (We even signed the Equal Pay Pledge two years ago to keep making progress.) It’s not just a goal or policy; it’s about living out our company values and treating all team members fairly.”

Step 2: Conduct a Job Analysis

A job analysis consists of an overview of the jobs being performed. It is the account of your employee’s responsibilities and expectations. Conducting a job analysis identifies tasks, responsibilities, skills, objectives, and the work environment in which the job is being performed.

Step 3: Group Positions in Job Families

After completing your job analysis, use this data to create job families. Job families are groups of jobs that are similar in the field and profession. An example of a job family would be nurses whose positions require similar knowledge, skills, and abilities (competencies). Job families also provide more accurate market pricing, simplifying pay structures.

Step 4: Develop Pay Grades for Seniority

Step-rate compensation considers job service years, and for this reason, it is important to develop pay grades for seniority within each job classification. Pay grades categorize your organization’s compensation tiers into low, mid, and high ranges. Seniority pay grades award employees who have been with your organization for longer periods; those with higher seniority earn higher levels of pay. For example, teachers with one to three years of service might have a salary range of $35,000 to $45,000, while those with four to six years would earn a salary of $46,000 – $56,000.

Step 5: Conduct Market Research

The next task is to conduct market research, also known as benchmark compensation. The benefits of conducting such research help your organization to understand how well (or not) your organization is paying employees in comparison to your competitors, accurately plan and forecast costs for talent, reduce turnover and identify pay gaps. Many human resource management software programs (such as Eddy’s) provide this data.

Step 6: Determine Salaries and Hourly Rates of Pay

After conducting your market research, work with your fiscal/accounting team to determine your salaries and hourly wages. Consider current and future payroll expenses and how employees are paid, and be sure to include any new and open positions.

Step 7: Create Policies

Pay policies help to ensure that your wages are aligned with your organization’s objectives and direct how wages are distributed. They are often included in the employee handbook. A few things to consider when creating a pay policy are terminations (how final pay will be distributed) and any collective bargaining agreements.

Step 8: Communicate

Once you have finalized your step-rate compensation structure, it is time to communicate these changes to your employees. Effective communication is how you build trust and maintain relationships with your employees. Meet with your employees and be prepared to answer questions such as the effective dates of the new structure and who will be impacted. In addition, make time for one-to-one communication, use visuals, and most importantly, be open to feedback.

Questions You’ve Asked Us About Step-Rate Compensation Structure

Union and governmental entities typically utilize a step-rate compensation structure.
An example of a step-rate compensation plan would be for a public school district. Employees performing the same job receive the same rate of pay based on years of service.
Wendy Kelly
Wendy N. Kelly, MSHRM, PHR, SHRM-CP

Wendy is a HR professional with over 10 years of HR experience in education and health care, both in the private and non-profit sector. She is the owner of KHRServices, a full service HR management agency. She is also SHRM and HRCI certified, serves as a HRCI Ambassador, and voted 2021 Most Inclusive HR Influencer.

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