Variable Pay and Performance Linked Incentives

Variable Pay - Then and Now

The practice of linking pay to performance has been around for a while. However, what’s new is that the percentage of pay that is linked to performance and the way in which the same is structured around different components of performance is new.

We all know about the system of increments and bonuses in the Government and Public Sector. These were designed in such a way that the employee’s performance is rewarded proportionally. However, the quantum of bonus and increments was so small that it hardly had an effect on the pure play linking pay to performance. The resulting inefficiencies in the government and public sector have been extensively reported.

In recent times, the concept of linking pay to performance has taken on an entirely new dimension with the introduction of variable pay. This article discusses some aspects of the variable pay and performance linked incentives in place in the contemporary organizations.

How it Works

One of the key components of this variable pay plan is the strategy of linking pay to performance. This is a strategy that has been followed by many Multinational companies across the world and consists of the overall pay structure being broken down into components. These components would include the basic pay, benefits and the variable pay. The variable pay would be paid out as a percentage of the whole subject to the performance of the employee.

For instance, if the employee gets a grade of 2 on a scale of 1 to 4, the variable pay would be 70-80% of the eligible amount and if the employee gets a grade of 1, the variable pay would be 120-100% of the eligible amount.

Accordingly, the performance of the employee determines the variable component of the salary. The international practice is to increase the component of the variable pay higher according to the hierarchy. This would mean that at senior levels of the employee hierarchy, the variable component can be as high as 50-60% of the overall pay.

Categories of Variable Pay

Further, there can be different categories of variable pay.

  1. The first component of the variable pay can be linked to individual performance,
  2. The second component can be linked to division performance and
  3. The third component can be linked to company performance.

The idea behind variable pay is that it provides an incentive for employees to feel a sense of ownership and take responsibility for their jobs as well and relate to the overall division and company.

By introducing variable pay, the management would ensure that employees are motivated to contribute individually and as a unit and a division and finally as part of the whole company. As outlined in the section on retention strategy, the sense of alienation of the employees can be reduced by making them feel part of a whole and not treat them as individual “cogs in the machine”.


In conclusion, this article has discussed variable pay and performance linked incentives as a necessary evolution to a system where merit is recognized more than it is being done now. Given the fact that many organizations in India follow this approach, it is time for the employees and prospective employees to attune themselves to this concept and work accordingly.

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Human Resource Management