Paying for Keeps: How Much Does Internal Equity Matter?

by David Creelman | Posted | Total Rewards

Paying for Keeps: How Much Does Internal Equity Matter?

Internal pay equity seems like an old-fashioned idea. Managers will tell you there’s a war for talent, that you have to pay the market price, that it’s time to be fast and flexible.

Yet you’ve probably seen this video of how a monkey reacts to getting cucumber when his buddy is getting grapes. Fairness is a big deal to monkeys and it’s a big deal to humans, too.

It’s easy to forget about fairness. Sometimes a VP will want to hire someone below the pay range to “try them out.” This may seem like a good plan but as soon as the employee finds out they’re getting paid less than their peers they’ll feel like the monkey with the cucumber. This isn’t a great way to build a business relationship with your employees.

When paying the market price isn’t about paying the market price

Sometimes a manager’s request to pay an employee outside the established pay range makes sense. A talent shortage may make it necessary to pay more than is otherwise fair. For example, when programming skills in a certain field are hot you may have to pay more for people in that field than programmers with comparable skills in other fields.

The word to note in the preceding paragraph is sometimes.

Often if a manager wants to pay outside the established pay range it is because they want to hire someone that is asking for a high salary, or the manager is trying to retain someone who has received a better offer. The manager feels it’s a matter of paying the market price, but a more objective analysis shows it is just a one-off situation. While each situation needs to be judged on its own merits, if we start going outside the pay range every time it’s convenient then the compensation system will quickly spiral out of control.

David Hoad, a senior consultant at the Hay Group said “I’ve seen situations where organizations have not lived within their compensation structure and it becomes very hard to correct. Yet, if the internal equity isn’t fixed motivation suffers and pay fairness becomes a major distraction.”

Internal equity gets complicated

There are a lot of complications when it comes to deciding what is equitable. Regional difference in the cost of living or market rate for talent can make using the same pay policy in two different cities impractical. However, any time you add additional features (like regional cost of living adjustments) to the compensation system it adds complications. It can be especially hard to explain to someone moving from a place with a high cost of living to one with a lower cost that they are not really getting a pay cut even though their pay cheque is smaller.

The point I’m trying to make here is just that while maintaining fairness is better than a free-for-all, it ’'s not easy. You need systems. You need good judgement. You need tact. And you need top management support.

Remember the basics

If you’re a compensation professional you know about job evaluation, grades, pay ranges, midpoints, compa-ratios, red-circling and so on. However, many managers have only a vague idea about how the pay system works and why it is structured the way it is.

You have probably run into some odd beliefs about pay. For example, some mangers think everyone should be paid at the midpoint of the range, not realizing the upper half is there for high performers. Others think people should get an incremental salary increase even if it moves them above the grade maximum, as if the maximum meant something other than, well, “maximum”.

A solid salary system serves the organization well. We need to educate managers about the how and why of compensation systems. We also need to be savvy enough to deal with the complexities, the special cases, and yes, times when market rates matter more than internal equity.

But push back against notions that internal equity is an old-fashioned idea. It’s still a defining feature of any good pay system.

Your turn: How do you balance internal equity with the need to attract and retain top talent?

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