Sales Commission Structures: Which Model is Best for Reps?
The typical sales compensation plan is made up of two parts–fixed base salary and variable commission. A sales rep’s base salary is often fixed and fairly straightforward. Sales commission, on the other hand is a key component in your sales compensation plan, based on a sales rep’s individual goals and performance. Using sales commissions as a part of your compensation plan allows for different configurations based on the given sales solution.
What is Sales Commission Structure?
When it comes to the different types of commission structures, the most common and simple approach is basing variable pay as a percentage of a single sale’s revenue. For example, if a widget sells for $1,000 with a sales commission rate of 5%, a sales professional would collect $50 for each widget they sell.
However, there are several ways to structure your commission plan. To help you decide which is best for your company, we’re breaking down the most common sales compensation models.
Typical Sales Commission Structures (Examples)
There are many ways to build out your commission structure, but the standard sales commission structures typically include revenue, gross margin, and tiered commission structures, along with multiplier and commission-only plans.
The widget example we explained above demonstrates a revenue commission model, which is one of the most commonly used sales commission structures. It works well in situations where product and service pricing is fixed, but it also greatly depends on the goals of your business.
For example, if a company is trying to gain market share, enter a new market, or even block competitors from earning the sale, they might prefer the revenue plan to encourage sales reps to close deals. However, more often than not, this setup fails to align with the larger goals of the organization or the unique makeup of the sales team.
Because of this, it’s important to consider the responsibilities of each sales role and develop sales commissions models that are tailored to each role on your sales team. Knowing the pros and cons of the different sales pay structures – and choosing the right one – can lead to more fruitful results for each sales team member, as well as the company’s bottom line. Here are a few other options to consider.
Gross Margin Commission Plans
Anything based on revenue only has to do with the price tag of the sale. Gross margin, however, involves both the price of the sale and the costs associated with making that sale, ultimately arriving at the profit of each transaction.
Let’s consider our commission pay example again: if the company is selling widgets for $1,000, and there are $500 in associated costs, the commission would be a percentage based on the remaining $500 profit, rather than the $1,000 revenue.
When it comes to gross profit margin vs. revenue commission, the main argument for gross margin is that each sale should benefit the company’s bottom line. That’s the name of the game, right? If a company is only focused on making the sale, there might not be any resulting bottom line benefit, or even worse, there could be a negative impact if the selling price is too low.
Tiered Commission Plans
Tiered commissions are designed so employees can earn greater commission rates as they surpass certain levels of revenues. For instance, if a reps is earning 5% on each widget sold up to $100,000 in total revenue, the tiered commission plan might allow for the rate to increase to 7% once the rep surpasses $100,000 in total sales. The commission rate may increase again at additional total sale amounts.
This type of commission structure helps boost sales team morale High performing reps have additional motivation to continue selling and earn higher commission rates. Thus, this encourages sales reps to branch out into areas and chase opportunities that might have otherwise been overlooked.
The multiplier plan helps companies build custom-made compensation strategies, but it can be a tedious process to design and implement. Multiplier plans are beneficial when sales leaders want to use multiple performance measures in a rep’s incentive plan.
The multiplier plan can start with the common commission structure, but then multiplying it by a percentage factor of quota achievement. Using multipliers can not only help reflect the sales cycle but also help motivate sales reps to over-perform.
Straight Commission or Commission-Only
Straight commission plans refer to paying reps on a commission-only model, with earnings made up entirely of variable pay (thus, there is no fixed salary component). While it can be argued that the straight commission plan isn’t necessarily a specific sales compensation structure, it’s important to address what it means to be commission-only.
Under a commission-only plan, sales reps are extremely motivated to close their deals, but on the other hand, their work also comes with more stress given the amount of risk involved, which can increase chances of sales burnout.
Likewise, you’re also increasing the chance that the sale is closed in a manner that doesn’t align with company goals. That said, there are certain situations where commission-only structures makes the most sense, such as shorter sales cycles or when there is the opportunity for sizable commissions, etc.
The Bottom Line
When it comes to the types of commission structures for sales reps and developing strong compensation plans, the process is never black and white. There are a number of other terms and ideas you should also be familiar with.
For example, the “draw against commission” is essentially a payment advancement that is subtracted from the final commission result. If a sales rep received a draw of $200, and you sell eight $1,000 widgets at 5% commission (for a total commission of $400), the reps would be paid $200 in commission because they already received the first $200 at the beginning of the month.
These three scenarios only scratch the surface on the different kinds of commission plan models that can be considered. In reality, one plan design doesn’t fit all, and the most successful organizations are implementing a hybrid mix of these commission structures to map both to their own corporate objectives, as well as to inspire the best performance from their sales reps and teams.
Sales Commission Reporting
On one hand, a solid sales commission structure/plan drives reps to perform and sell in a certain manner. But on the other, it also provides structure for reporting and serves to calculate commissions, and more. All things considered, it is more than just creating your compensation plans. Your commission structure should allow for easy review and management, and be flexible for adjustments made as needed.
Xactly SimplyComp arms companies with increased visibility into their sales performance data, allowing reps to see earned commissions in real time. As an easy and affordable way to leverage incentive compensation to accelerate performance, SimplyComp automates sales commission reporting, improves rep trust and motivation, and allows for you to easily spot commission errors and reduce disputes. Start your free trial of SimplyComp today.
Ultimate Guide to Sales Compensation Planning
It’s that time of year again. It’s Q4, and you’ve begun the challenging process of designing next year's sales plan. We feel your pain and want you to get the most benefit possible from your sales planning process. Download the guide today to make your upcoming sales comp plan your best yet!