What’s in Your Compensation Package?

What’s in Your Compensation Package?

To be self-sufficient in our economy, everyone needs some type of income; which is money to pay the bills and other living expenses. This comes in many shapes and forms.

Most people earn income by working for a business, nonprofit organization, or government entity. That income can then be used to pay for needs, wants, and purchases that help solve problems or improve quality of life. Understanding how you are compensated is an important part of deciding how much income you have available to spend and save.

The foundation of your income potential is often set by your education and career choice. There is a strong relationship between education and income, where higher levels of training or specialized degrees generally lead to higher-paying jobs. Likewise, the career path you choose has a major influence on your earnings, with fields like technology and medicine often offering higher compensation than others.

When you have a job, the total compensation from your employer consists of more than just the paycheck you get. Different employers offer many different compensation packages. Finding the right balance between them is a careful point of negotiation when accepting a job offer. The first step is knowing what they are!

Direct Compensation

Direct compensation is what you get from your employer for doing your job. How you are being paid? This is specified in your employment contract, collective bargaining agreement, or the other terms of your working arrangement.

Workers can receive direct compensation in several ways, including:

• Hourly wage: a set amount for each hour worked
• Annual salary: a set amount of pay over the year
• Commission: pay based on sales or other performance measures
• Piece-rate pay: pay based on the number of units or tasks completed
• Profit-sharing: compensation tied to a portion of a company’s profits

The compensation structure available to a worker depends on factors such as the industry, job responsibilities, applicable laws, and labor-market conditions. Some jobs may also combine multiple forms of compensation, such as a salary plus commission or bonuses.

When comparing compensation between jobs, be sure to consider commissions, tips, and bonuses in addition to base salary or hourly wages, since these can significantly affect total earnings.

Salary and Wages

When people think of their income, salary or wages is usually the first number that comes to mind. It’s the dollar amount that your employer pays you per year. When considering different job offers this is the easiest number to compare apples to apples between your options. $45,000 or $47,500? Which is greater?

Your salary or wages contribute to your gross pay. Gross pay is the total pay you earn during a pay period before taxes, benefits, or other withholdings are deducted. Whether you are paid through a salary, hourly wages, commissions, or another compensation structure, gross pay represents what you earned before those deductions are taken from your paycheck.

Hourly Wages

Hourly wages are the most basic form of compensation. You are paid a specific amount for every hour that you work. Most entry-level jobs will be hourly, but many high-end professionals and independent contractors also charge by the hour. Part-time employees, whose scheduled work hours differ week to week, are almost always paid by the hour.

If you do work as a contractor, it means that you are self-employed, but you contract out your time and energies to work for someone else (either a person or company). Companies like Uber and Deliveroo, who offer a lot of flexibility to their workers, employ most of their workers as contractors. Contractors are typically paid a specific amount per hour of work, plus expenses (since a contractor typically has to buy their own work materials and get paid back for them later). Contractors are not typically eligible for any compensation other than this hourly rate.

If you work as an hourly employee, that means that you have a specific agreement with your employer. Employees have much less flexible schedules than contractors. They are scheduled to work for a specific amount of time every week and are compensated based on the total number of hours they actually work. Hourly employees may be entitled to other perks and forms of compensation, depending on their employment agreement. This could include free food for someone who works at a restaurant, getting to see movies for free for someone who works at a movie theater, or a holiday bonus. Hourly employees who end up working more than their scheduled hours are often paid overtime as compensation.

Salary

A worker who is paid a salary is not paid per hour but instead is paid a set amount over a pay period based on a set number of hours worked per week, month, or year. Salaried workers are almost exclusively full-time employees.

The primary benefit of a salary is income stability and predictability. However, a potential drawback is that salaried employees are often not eligible for overtime pay, even if they work more than their standard hours.

Even though salaried workers are not paid per hour, their contracts usually state that they are expected to work at least 30-35 hours per week. If they need to work more than this as part of their normal job duties, they are not paid overtime.

Salaried workers are more likely to receive other types of compensation in addition to their base salary including things like paid holidays, mileage reimbursement, and paid sick time.

When Your Income Changes

Not everyone’s income stays the same from month to month. Seasonal work, commissions, tips, gig work, and changes in overtime hours can cause earnings to rise and fall throughout the year.

If your income varies, avoid building your budget around your highest-earning month. Instead, consider using a typical month’s income or a lower-income month as your baseline for regular expenses. Extra income during stronger months can then be directed toward savings, debt repayment, or future expenses.

Use the Paycheck Variation Simulator to see how changes in earnings can affect your take-home pay and monthly budget.

Insurance

Benefits like insurance are a critical form of compensation. In addition to salary and wages, most employers offer group insurance as well. Group insurance is offered to all employees of a company who get a group deal for insurance at a fixed cost each year. Because many employees take advantage of this insurance program, the insurance company can offer lower premium rates than you would typically get if you had to purchase insurance as an individual. 

The cost of the group insurance is shared between the employee and the employer. The employee’s share is deducted from their gross pay, while the employer’s share is paid directly by the employer.

Health Insurance

If you work for a large company, group health insurance will likely be included as part of your employment package. As an employee, you can usually add family members and children to your insurance coverage. Since buying health insurance on your own can cost twice as much, (or more) health insurance is a major form of compensation to consider when comparing job offers.

Life Insurance

Many employers will also include life insurance as part of the employment package. Life insurance has two functions:

1. If you pass away before the maturity date on the policy, your survivors are given a lump-sum of cash as a form of compensation for your lost income.
2. If you live beyond the maturity date, most life insurance policies also have a maturity payout which is a lump-sum of cash that can be added to your retirement savings.

Pre-Tax vs. After-Tax Benefits

Some workplace benefits are paid for using pre-tax contributions, meaning the money is deducted from your pay before certain taxes are calculated. Depending on the plan, examples may include certain health insurance premiums and traditional retirement-plan contributions. Other benefits or contributions may be paid with after-tax dollars, meaning taxes are calculated before the money is deducted.

Whether a benefit receives pre-tax treatment depends on the specific plan and tax rules. See Income Tax Filing Tips & Tricks for more information about taxable and nontaxable income.

Retirement Account Contributions

Many employers will also offer to help with retirement savings through programs such as 401k, 403b, or a pension plan.

Direct Contributions To Savings

The most common method employers use to help you save for retirement is by paying directly into your retirement account, like a 401(k), usually matching your own contribution. This means that for every dollar you save yourself, your employer will also contribute an extra dollar, doubling your savings rate. This form of employer contribution is very popular both with employers and employees since it gives employees direct control of their retirement accounts. Employers also benefit through reduced employee turnover, tax deductions, or tax credits. 

By maximizing your retirement savings early, (meaning you save the maximum eligible amount per year) you can effectively double the amount you’ve saved because your employer contributes the same amount. Since your retirement savings are being invested, you will also be earning returns on your investment through the growth of stock, payments of dividends, earning interest on bonds, etc., you’re getting an even bigger bonus.

For more information on employer-sponsored retirement savings programs, like the 401(k), check out our lesson on retirement.

Pension Schemes

Employers might also offer a direct pension program. After retiring from a company with a pension program, you receive a check each month for the rest of your life. The amount you receive is typically based on how long you worked with the company and how much you earned over your lifetime.

Even if you leave one company and start working somewhere else, you will still be able to collect a pension from the first one based on how long you worked there. Pensions are less common in recent years, as many employers favor direct-contribution plans instead.

Indirect Compensation

Indirect compensation includes non-cash benefits that are still a critical part of your overall payment package. While they don’t appear as a line item on your paycheck, the use of these benefits as compensation has significant financial value and impacts your quality of life. These are often considered perks of your job. 

Equity Compensation

Equity compensation means the company provides a way for its employees to own company stock and benefit from some of the company’s profits. This can be through direct stock compensation, (receiving shares of stock in the company) stock options, (giving employees the right to buy company stock at a later date at a fixed price), or even through profit sharing, (splitting the company profits with employees).

Forms of equity compensation are most popular with employees in management roles. They act as a form of motivation to encourage employees to help the company grow, since the better the company does, the more valuable the equity compensation becomes. Because start-up companies haven’t yet experienced substantial success, employees are often offered direct stock compensation. Once the company grows, the value of your shares increases, sometimes dramatically. 

Vacation Time

Vacation time, how much of it you receive, and how often you are eligible for it, is a key piece of indirect compensation. Vacation days, sick days, and personal days all vary greatly from company to company, but having those paid days off can be a major source of compensation.

Flex Time

A new form of compensation to reward employees and attract new talent in recent years has been the introduction of flexible working hours and conditions. In the past, businesses had set hours of operation, so you were expected to work from 8:00 a.m. to 5:00 p.m. with a one-hour lunch break. An example of flex time would be a company allowing employees to work from 8:00 a.m. to 6:00 p.m. four days a week instead of working 9:00 a.m. to 5:00 p.m. five days a week. This provides employees with regular 3-day weekends. In another flex-time option, companies may allow employees to work from home occasionally or flex their hours by starting and ending their workday later.

How much flexibility your job allows can be a major form of compensation offered by your employer.

Family Perks

Some companies offer perk packages specifically targeting employees with families. Typical perks include maternity/paternity leave, bonuses to accommodate child daycare, extra time off for child sick days, and sometimes company-provided daycare on-site in the building. Family perks are an important form of compensation companies offer to attract candidates who may be starting a family in the future or who currently have young children and need to consider how to balance their family-work commitments.

Other Sources of Income

Throughout your life, the majority of your income will come through your employment, but there are additional sources of income you should consider. 

Comparing Types of Income

Different types of income may be earned and reported in different ways:

The tax form you receive depends on the type of income and the circumstances, so not every payment will necessarily result in one of these forms.

Investment Income

You receive investment income from dividends, interest, selling stock, and other investment-related activities. The primary benefit of investment income is that it is “passive,” meaning it doesn’t require active work and has the potential for significant growth. The main drawback is risk; unlike a salary, investment income is not guaranteed and can fluctuate or even result in a loss. Investment income becomes very important after you retire. If you have been saving money in a retirement account, and have benefited from employer contributions, your investment income can be a very large amount by the time you retire.

You could also receive investment income through selling a house, investing in start-up businesses that provide you with profit-sharing or equity in the business, or using bonds or certificates of deposit that provide interest income when they mature.

Additional Sources of Income

Income can also come from sources outside a traditional job. Self-employment can generate income from operating a business, freelancing, or gig work. Rental properties may provide rental income, while investments can generate interest, dividends, or capital gains. During retirement, people may also receive income through withdrawals or distributions from retirement accounts.

Government programs can provide another source of income or financial assistance in certain circumstances. Depending on eligibility, these may include unemployment benefits, disability benefits, or other federal, state, and local assistance programs.

For more information about unemployment insurance, Social Security, and other government assistance, see Public Financial Assistance Programs.

Social Security

Social security provides retirement benefits and disability income for employees who have paid into the social security system and have reached retirement age. The benefit of Social Security is its reliability as a safety net, but its drawback is that the payments are generally not large enough to live on alone. Everyone who pays into social security is eligible for its benefits. Social security can often be the most reliable form of income, but it’s usually not the largest. 

Combining social security income with other retirement income will help you live a comfortable life in your retirement years.

Challenge Questions

1. What is the difference between a wage and a salary?
2. What is the minimum wage in your state?
3. What are the advantages and disadvantages of being on a salary and a wage?
4. Would you prefer to be paid a wage or a salary?
5. Other than pay, are there any other benefits that employees could potential get from working at a company?

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