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How Should I Reward Employee Performance?

It’s that time of year again when all good managers ponder the question: “Should I reward employee performance with raises or bonuses?”

The answer to this age-old question lies in the answer to another, simpler question. Do you want to reward your employees for their good performance in 2010 so they can stay with you for the rest of their careers?

If the answer is yes, then you’ll want to spend your entire budget on increasing their salaries. The standard way of doing this is to decide on the base increase that all employees will receive, which usually reflects the current cost of living increase. Then create a continuous growth that reflects your performance rating table.

For example, all employees have a 2% salary increase, good performers have a 4% salary increase, and outstanding employees have a 6% salary increase.

However, if you prefer to reward you only for the year of good performance, you will want to consider splitting your budget between raises and performance-based bonuses.

In this approach, you can decide on a standard raise tied to an increase in the cost of living for the year, or you can decide on a raise based on the employee’s salary relative to the current market rate for similar positions. Then you decide on a bonus amount that is directly related to their performance that year.

Rewarding performance with a raise is like the gift that keeps on giving. You don’t undo the increase if their performance declines the following year. If their performance improves, you shouldn’t add extra either. Instead, employees will continue to receive higher salaries based on their first-year performance. Whereas if performance is linked to bonuses, if their performance declines in the second year, their second-year bonus will be negatively affected, and they will not receive residual rewards for good performance in the first year.

There are also hard dollar value differences to consider. Assume that Fred’s salary in 2010 was $50,000, and his performance remained constant for the next five years. Your practice allows for 5% of the amount to be allocated annually for compensation/bonus increases. If you tied performance to the raise and allocated the full 5% to the raise each year, you would spend $16,883 more than if you gave Fred a 2% raise and a 3% bonus each year.

The question you need to answer is, which approach works best for Fred from an employee satisfaction and morale perspective?

what will you do? Let us know what you think…

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