Compensation Definition: A Guide to Pay

Compensation plays an essential role in companies’ ability to attract job candidates and employees when accepting a job offer and deciding to stay with a job. When you want to understand the different ways that employers compensate workers, it helps to have more information. Continue reading to get a clear definition of compensation, explore the three types of employee compensation, learn how a fair compensation package helps companies, and more.

Compensation definition: What is it?

Compensation refers to monetary and non-monetary payments that organizations provide employees in exchange for work performed. Offering fair compensation plans, including a mix of monetary and non-monetary types of compensation, helps attract, motivate, and retain employees. 

You can also apply the term to payments for harm that someone has suffered from an accident or illness. This article provides more information specific to the compensation provided by employers.  

3 types of compensation

Companies have three options when choosing their employee compensation structures: direct, indirect, and non-monetary.  

1. Direct compensation

When workers receive monetary compensation for completed work, it falls under the category of direct compensation. Employees can receive four different kinds of direct compensation: hourly pay, salary, commission, and bonuses. 

• Hourly pay: A certain amount of income received for every hour worked

• Salary: A set amount of money paid to an employee over the course of a year, regardless of hours worked 

• Commission: An extra fixed amount of money paid to an employee based on a percentage of sales

• Bonuses: An extra variable amount of money paid to an employee for work above and beyond the job description

2. Indirect compensation

Indirect compensation refers to non-cash forms of compensation. Examples of indirect compensation "paid" to employees include:

• Childcare

• Company cars

• Employer retirement contributions

• Health or life insurance

• Work-related equipment like laptops and smartphones 

3. Non-monetary compensation

This type of compensation refers to rewards and advantages employees receive without monetary value. Examples of non-monetary compensation include:

• Public recognition, such as an Employee of the Month award

• Time off for community work or volunteering

• An option for flexible work hours

• An open-door policy for manager access and constructive feedback

• Mentorship programs 

• Opportunities for training and attending other work-related events

Why is compensation important?

As mentioned, adequate compensation helps attract potential employees and keeps current employees motivated and loyal. Companies benefit from attraction, motivation, and retention in the following ways:

Benefits of attracting top talent

A good compensation strategy helps attract potential employees. A large talent pool of potential employees helps ensure a skilled and qualified staff. 

Benefits of employee motivation

Employees who receive adequate compensation often have higher morale and job satisfaction. High morale frequently leads to higher motivation to work and perform better. 

Benefits of employee retention 

When employees want to come to work, they're more likely to stay longer in the position. Retaining skilled, motivated employees saves companies money. 

Factors that impact compensation

Creating a fair compensation structure sometimes proves challenging for employers. Employers evaluate several factors to determine fair compensation for workers. These include:

• Employee education

• Employee skills and experience

• Current market trends for employee compensation

• Geographic location and how it affects the cost of living

• Employee productivity

• Labor supply and demand

• Labor union requirements

• Financial health of the company

What is a compensation and benefits manager?

A compensation and benefits manager oversees any activities within an organization that involve employee compensation and benefits. Duties in this job might include setting and monitoring a company's pay and benefits structure, managing pay and benefits distribution, ensuring compliance with state and federal laws and regulations, and working with outside benefits and insurance professionals. 

According to Lightcast™, the average annual salary for a compensation and benefits manager totals $143,145.60. This salary reflects at least five years of work experience and a bachelor’s degree or higher for your education [1]. 

Essential skills needed by a compensation and benefits manager

All jobs demand a particular skill set for effective job performance. Essential skills that can help you perform better in the role of compensation and benefits manager include:

• Ability to think analytically

• Attention to detail

• Business acumen

• Communication skills

• Decision-making skills

• Familiarity with compensation and benefits software

• Knowledge of company policies and procedures

• Organizational skills

• Problem-solving skills

• Time management

How to become a compensation and benefits manager

A blend of education and experience can help increase your competitive standing as a prospective compensation and benefits manager. Examine three helpful qualifications that can support your goals. 

Get a bachelor's degree. 

Employers hiring a compensation and benefits manager typically look for someone with a bachelor's degree. Excellent areas of study for this position include:

• Business administration

• Business management

• Finance

• Human resources

Get work experience.

Typically, you can expect to start in an entry-level position and work up to a compensation and benefits manager role. Examples of entry-level positions that can help give you the experience for this job include assistant, coordinator, or specialist positions in benefits, compensation, payroll, or job analysis. An entry-level business, management, finance, or human resources position can also help lead you down this career path.  

Get certifications. 

Once you have a few years of job experience, you can get certifications to become even more prepared for a compensation and benefits manager job. Professional associations that offer certifications you might want include the International Foundation of Employee Benefit Plans and the Society for Human Resource Management. 

Examples of related jobs

To get an idea of all the types of jobs in this field, consider exploring related roles. Jobs with similar duties and skill requirements to that of a compensation and benefits manager include:

• Compensation, benefits, and job analyst

• Financial manager

• Human resource manager

• Human resource specialist

• Labor relations specialist

• Payroll administrator

• Payroll specialist

• Payroll processor

• Training and development manager

• Training and development specialist

Learn more about compensation and HR on Coursera

Compensation can affect you as an employee or an employer. Learning more about compensation and its importance can help you decide if you're interested in a career as a compensation and benefits manager or one like it.

To learn more about an employee compensation career, consider taking Managing Employee Compensation offered by the University of Minnesota on Coursera. As part of the broader Human Resource Management Specialization, this course provides valuable information on employee pay and benefits. You can learn about pay strategies that lead to a fair compensation structure, short-term and long-term employee incentives, different employee benefits, and various non-monetary rewards.