Can You Get Rid Of Annual Salary Increases?

by David Creelman | Posted | Total Rewards

Can You Get Rid Of Annual Salary Increases?

If you've moved to a new performance management approach, one that eliminates or de-emphasizes the annual appraisal, someone is going to ask you whether you plan to change the annual cycle of salary increases. When they ask, you'd better have an answer.

Before we get to that answer, it's worth noting that despite all the press about reforming performance management there is remarkably little said about how companies intend to handle pay. In fact, most companies that have adopted ‘continuous performance management' still follow an annual pay cycle. Managers make pay decisions within the constraints of what they've been budgeted to give out. The new systems just leave out the counterproductive tedium of the annual appraisal discussion.

If you drop the annual appraisal you may stick with an annual pay cycle or you may be more adventurous and try something new. Either way, here are some tips on how to think through what you should do and say about rewards under the new performance scheme.

Responding to any question about pay policy

If someone asks about pay policy, the first step is to take a page from Dr. Edgar Schein, author of Humble Inquiry. Ask questions about why the issue is a concern and what they think of the current system - particularly around opportunities to improve. It may take some probing to get to the reason they're asking, but it may reveal an issue that needs to be addressed.

Other than curiosity, there are three possible reasons employees are thinking about the pay cycle:

1) A desire to innovate.

If innovating with performance appraisal makes sense, then innovating with the pay cycle is probably a good idea too.

2) Issues with entry level hires.

People hired fresh out of school find that waiting a year for their first raise is too long and this causes unwanted turnover. More frequent pay raises could be a solution.

3) Issues with hard to retain employees.

In some jobs or regions, the annual pay cycle is too slow to keep pay competitive and the organization loses good people.

Knowing where people are coming from will guide your response. If they're interested in innovation, then we need to go beyond a hunch that it might be good to solid information on costs and benefits. My response to someone with a desire to innovate would be to see if they can outline a system where the benefits clearly outweigh the costs. Otherwise, on an issue as significant and sensitive as pay, stay conservative and retain the existing annual cycle.

If the person's concern is entry level hires or hard to retain employees then it's worth considering innovative solutions for these special cases while leaving the annual cycle intact for other employees. In these cases, consider how serious the issue is, the options you have to address it and whether a change to the pay cycle is the best option.

What a non-annual cycle would look like

If you're getting to the point of seriously considering a non-annual cycle, then you have to figure out how it might work. There are three main choices:

1) Managerial discretion

Give managers the discretion to give all or part of the annual pay increase early.

2) Twice a year or quarterly pay raises

Give pay increments more frequently.

3) Pay raises as people hit certain targets

In highly structured jobs you could create a pay plan with automatic increments at certain milestones.

A rather dramatic example of the latter option is documented by John Boudreau and Ravin Jesuthasan in Transformative HR. They discuss a Chinese video game company that uses a system where employees gain points for certain accomplishments; gain enough points and you get a small raise. In this gamification model, employees could get many small raises in a year rather than one large raise at the end of the year. Of course, they were dealing with a combination of issues: young employees in the dynamic Chinese labour market in the competitive technology industry.

You can use one of the three non-annual pay raise options for employee segments where it makes sense, but there ought to be a compelling reason for doing so.

Reasons to retain the annual reward cycle

There are three reasons to retain the standard annual reward cycle:

  • Fairness: If all pay decisions are made at the same time then they are more likely to be fair.
  • Cost control: The simplicity of the annual cycle reduces the risk that pay raises would escape proper oversight and get out of control.
  • Administrative simplicity: It's probably easier to do an annual cycle than more frequent cycles.

None of these is a show stopper for someone wanting to try a new system; however, they are good arguments for retaining the annual cycle in the absence of a strong case for change.

Summing up your answer to questions about the annual reward cycle

Once you've figured out the why behind the question, your answer ought to contain the following points:

  • Yes, we have thought about it and considered various alternatives.
  • The idea of more frequent or continuous changes in reward is intriguing, but we found that the benefits did not outweigh the risks.
  • We're open to considering more frequent pay raises in special circumstances.

It's always more interesting if your answer to a question is a resounding yes to innovation. But it makes sense to be conservative when it comes to pay when there's not a strong reason to change. In those cases, you can say with confidence that you've seriously considered the issue and decided the best approach is to stick with the annual pay cycle.

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Cover of the book
Cover of the book

Why Pay-for-Performance Can Work At Last

Pay for performance is finally working thanks to more nuanced approaches and better software tools. This white paper explores the topic from each of these angles.

Try A New Strategy

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