
Commission Cap
Capped commission– or a commission cap–means the compensation plan in question has a limit on the amount of commission a sales rep can earn during any given pay period.Continue Reading
What is a Tiered Commission Structure?
A tiered commission structure is a type of sales commission plan that offers different commission rates for different levels of performance. Higher levels of performance earn higher rates of commission. This structure is designed to motivate salespeople at every stage of a financial period and throughout every stage of a sales cycle by using higher rates of commission as the incentive for continued effort.
A tiered commission structure can be used in conjunction with base salary or on its own for commission-only reps.
When designing a tiered sales commission structure, it is important to consider several best practices to ensure that the plan is effective and fair for your entire team. Here are a few key considerations to keep in mind when you set out to build a tiered commission model:
By following these best practices, companies can design a tiered sales compensation plan that motivates reps to close deals and also helps your organization achieve its revenue goals.
Tiered commission structures are most effective for sales teams and companies with a large sales force, where individual performance can have a significant impact on the company’s revenue. Companies that sell high-ticket items, such as real estate, luxury cars, or technology, can benefit from using a tiered commission structure.
There are different types of tiered sales commission structures that companies can use, depending on their goals and the nature of their sales activities.
One type of tiered commission structure is the step commission plan. This example starts with a basic revenue commission model. From there, sales reps receive a higher commission rate for every additional step or level of sales they achieve. For example, a salesperson may receive a 5% commission rate for sales up to $50,000, a 7% commission rate for sales between $50,000 and $100,000, and a 10% commission rate for sales above $100,000.
This example shows a plan you might implement if you’re trying to motivate reps to close bigger deals, attempting to move up market, or focused on increasing average deal size. Not only do reps earn more commission for closing bigger deals, but the rate of commission is also higher– making it far more profitable for the rep to spend their time and energy on bigger deals.
Another example of a tiered sales commission plan is one based on the number of deals a rep closes. For example, if a rep has a quota based on a goal to close 15 deals in a quarter, their commission structure might look something like this. A rep may earn 5% commission for the first five deals they close, 6% for the next five, 7% for deals 11 through 15, and 8% for any additional deals they may close.
This type of plan is intended to incentivize reps to continue closing deals even after they hit their goal. The example illustrated below shows how much commission a rep may earn if they were to close 12 deals out of their 15 deal goal.
A third type of tiered commission structure is sometimes referred to as a threshold commission plan. In a threshold commission plan, the commission rate increases once the sales rep reaches a certain sales threshold. For example, a sales representative may receive a 5% commission rate for all sales, but once they achieve quota attainment, any additional deals earn the rep 10% commission. This may be done in an effort to incentivize reps to continue working hard even after hitting important sales targets.
In this example the rep has a quarterly quota of $475,000. You can see that once that threshold is met, the commission rate increases.
There are both advantages and disadvantages to using a tiered commission structure. Let’s take a look at some of the most commonly cited pros and cons:
One advantage of using a tiered commission structure is that it tends to be more motivating than other commission structures– particularly towards the end of a year or quarter when motivation may wane. By offering higher commission rates for higher levels of performance, sales reps are incentivized to work harder. This not only encourages reps to sell more but also leads to more total sales and increased revenue for your organization.
Another advantage of using a tiered commission structure is that it can help to combat sales turnover and keep top-performing sales representatives happy and engaged. Sales representatives who are consistently achieving high levels of performance are more likely to stay with a company that offers a tiered commission structure, as they can earn a higher income and feel appropriately compensated for their work.
One potential disadvantage of a tiered sales commission structure is that it only works well for teams compensated for the revenue they bring in. If you’re looking to compensate your teams for their activities, you may want to avoid this type of plan. Because a tiered compensation structure places emphasis on sales performance level, it may inadvertently encourage a quantity over quality mindset on teams that are compensated for the number of activities they perform.
Another disadvantage is that a tiered commission structure is often more difficult to design, implement, and manage than other types of commission structures. There are more factors to keep in mind and more variables to keep track of. New companies or companies who don’t have access to commission automation may find it more difficult to manage a tiered compensation structure than say an established sales team or organization with access to more resources.
The return on investment (ROI) of a tiered commission structure can be significant if implemented properly. A well-designed and executed tiered commission structure can motivate sales representatives to sell more, leading to increased revenue for the company.
In addition, a tiered commission structure can help to identify top-performing sales representatives, who can then be recognized and rewarded for their work. This can help to retain top talent and reduce employee turnover.
However, it is important to consider the costs associated with implementing and administering a tiered commission structure. The commission rates offered must be competitive with industry standards and aligned with the company’s revenue goals. Additionally, the administrative costs associated with tracking and managing the commission structure must be taken into account.
The short answer is it depends on you, your business, and your goals. There is no magic formula for commission planning. And while that might sound like a cop-out, I’ve been through it several times in previous companies and it’s invariably a test-driven process.
This is the first article in a series on spreadsheets at Spiff, aimed at helping those of you manually managing your commissions in spreadsheets. Our hope is that it’ll help make your life just a little bit easier–as we know as well as anyone how absolutely painful managing commission plans really is.
Just as Olympic athletes train to reach peak performance, so do sales teams. In fact, research shows, it takes an average of three months for a new seller to be ready to interact with buyers, nine months for them to be competent to perform, and 15 months for them to become a top performer (source).