The three forms of performance-based pay are incentive, merit, and earnings-at-risk. Each of them have their advantages and disadvantages.
This paper will delve on the comparison of the three forms of performance-based pay as well as the pros and cons of each.
A Discussion of the Three Forms of Performance-Based Pay
There are three forms of performance-based pay that are being utilized by organizations. These are merit-based, incentive, and earnings-at-risk.
Merit Based Pay
In general, a merit pay refers to a method of paying salaries based on the value of the performance of an employee. In the school setting, merit pay is usually administered in two ways. The first one is through the district office. In this method, teachers who obtain high rankings can be entitled to higher pay based on a pre-determined scale(Ellis, 1984).
The second form of administration is through the teacher themselves. The payment of the merit pay can be done separately as a supplement to the regular salary (Ellis, 1984).
Advantages and Disadvantages of Merit Pay
Rewarding employees based on the merit of their performance presents some advantages and disadvantages (Levine, 2008).
The advantages are: 1) it motivates the employee to be productive; 2) it provides the worker a channel for increasing their potential income; 3) for the employer, it gives them an opportunity to maximize the potentials of their employees (Levine, 2008).
On the other hand, the disadvantages of a merit pay are: 1) it takes into account not
only the salary scale but also the cost for assessment and the likelihood of more employees becoming qualified; 2) merit pay scheme must comply with state, employment, and collective bargaining laws (Levine, 2008).
The next form of performance-based pay is the incentive scheme. Here, the employee is paid a certain amount as an incentive for putting in hard work. The more work the employee puts in, the higher is the incentive pay (Cook, n.d).
Advantages and Disadvantages
Incentive pay provides the following advantages: 1) the employee can set their mind on a specific target; 2) The payouts received by the employee depends on the output; 3) the compensation is connected to the performance of the employee. If the target is reached, the pay is handed out otherwise it will be suspended; 4) incentive pay can strengthen teamwork if team effort determines the payout; 5) it is a means of distributing wealth to those who had a part in the success; 6) when the payroll is low, incentive pay is a method of rewarding top employees (Cook, n.d).
The disadvantages of incentive pay are: 1) the standards for determining production are usually unfair; 2) it may bring about competitive rather than cooperative spirit; 3) incentive pay usually results to stricter standards; 4) incentive pay may result to conflicts between employees and management (Cook, n.d).
In an earnings-at-risk payment plan, a certain percentage of the employee’s base salary is placed at risk on the premise that they will be given an opportunity to get an income that is more than the basic pay upon reaching the desired target (Cook, n.d).
Advantages and Disadvantages
The advantages of earnings-at-risk pay include: 1) it can have a favorable effect on both the organization and employee; 2) it would be easier to measure group than individual performance; 3) it can foster teamwork (Cook, n.d).
The disadvantages of earnings-at-risk pay include: 1) the employee may not be able to monitor their individual performance and how it will affect their incentive pay; 2) may result to faster turnaround of top employees because they need to share the profit with non-performing or less performing employees; 3) the risk to employee compensation may be greater due to reduced stability of income (Cook, n.d).
Cook, C(n.d). Pay-for-Perfomance: Incentive Rewards. University of Texas Arlington. Retrieved August 1 2008 from http://management.uta.edu
Ellis, T(1984). Merit Pay for Teachers. ERIC Digest. Retrieved August 1 2008 from
Levine, G(2008 March 10). The Wisdom of Merit Pay. Gene Levine Associates. Retrieved from http://www.genelevine.com/Papers/31.htm