How to Design an Effective Commission Rate
Establishing commission rates for a specific employee or job title can be tricky territory to enter. Setting a commission rate should accomplish several things:
- Create a profitable structure for the overall business
- Enable the employee to earn fair wages
- Incentivize exceptional performance by allowing the employee to potentially earn well above standard compensation
Instead of following the path of too many business owners, who insist that they can’t figure out a set commission rate and instead make up a “standard” number, take a more logical approach.
There is no good reason to have a sales force on your staff being paid by salary instead of working to earn commissions. Businesses based on this structure typically generate low yields at incredibly high costs. The way to guarantee a profitable business and a satisfied sales force is to reward productivity through fair commission rates instead of a market salary.
Take the following items into account when setting up your corporate commission rates and you’ll have numbers that work for both your bottom line and valued employees:
- Base Pay. Sales are inherently inconsistent. While all sales people should earn based on commission, there should also be a base pay to compensate for natural fluctuations in new business. This base pay should essentially be a bare minimum salary provided to each salesperson. Not only does the base pay reassure sales people that the company is invested in them, but also affirms a more typical employee/employer relationship. $18-36,000 is a good base salary in most cases.
- Earning Potential. In order to set a specific commission rate, first establish what the top-level performers should be able to earn. This rate should be generous enough to reward those who will go the extra mile to make an impact on your business’s bottom line as well as their own. Once you have set this amount, which could range anywhere from $75,000 to $150,000 or more, set a commission rate based on gross sales that could generate that income for an employee. For most businesses, this percentage will fall withing the 3-7% range.
- Product Profits. Taking into account that commission should not be paid on shipping costs or taxes–only the net invoice. High invoice products may warrant a lower commission while low invoice products may call for commission rates to be raised. Take a look at your profit percentages and pricing profitability, which should be a key indicator of where to set commission rates.
- When to Cash Out. Commissions should be paid monthly at the very least to encourage productivity and to quickly reward high achievers. When a salesperson’s check is largely based on commission, it is plainly obvious to see the direct results of their efforts each month, which encourages better performance over the long run.
- Atypical positions. For job titles with no direct selling aspect, as in the case of a production worker or sales manager, set a higher base salary than for standard salespeople. Add a lower percentage commission to the position, and base the commission on some measure of productivity within that person’s department.
- When in Doubt… If you have no other markers, set a standard commission rate based on something measurable that is plainly obvious to all workers: production, sales volume, profitability or other business ratios.
When everyone in your sales force is working on commission based on profitability, production goals or revenue, the success of the company becomes the goal of each individual member. In this way, well-placed commission rates encourage an entire team of workers to rally together in support of a common goal.
If paychecks are based on productivity instead of just the number of hours worked, every worker has the potential to earn more than industry standards thanks to their own success.
Switching from a traditional salary system to a commission structure is sure to cause some turmoil within your workforce, especially among long-established employees. Prepare your HR department for questions and objections well ahead of time to minimize issues during this transition period and always be open to employee suggestions.
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This is a great article, I’ve passed it on to clients to further make the point of the importance of a commission schedule.
I just started at a boutique in a tourist town and when the owner works with me he is taking half of the commission for the sales in the day, and not helping to make the sales, what do i do??? I have been in retail since high school and I have never seen anything like this. And the commission is only 1 1/2 %, Crazy
You have few options, other then to either attempt a conversational but not confrontational discussion resulting in the appropriate conclusion, or quit and work elsewhere, or stay on while you look for other work and then quit, if that is possible. Status quo is irresponsible, unreasonable, unfair, and cannot be accepted. Your owner demonstrates an attitude and character that should be avoided as being an unlikely place for a long term satisfying relationship to develop…thus get on with it. Make a break…or make it right and still look for another opportunity, where there is more of a likelihood for your growth and development.
I am starting up a business that will be a home based business to start. I am looking for a part time sales person. I am selling a service, where the sale can be anywhere from about $15 a month to several hundred. How can figure a valid commission?
Todd
Todd, I have tried to describe the process in the blog you are commenting on, without specific info I can do no more, feel free to call me at 413-584-2581 and I would be glad to discuss this further. Don
I am starting a home-based business, later to be followed by internet and store front. I want to have independent sales associates working on commissions only. Something kind of like home parties, but with my own twist. I want my ISA to have levels, recruit and make money from those ISA. Not sure what’s a good commission amount. CAn you help me?
I need much more information, but specifically, profit margin and gross amount of a typical sale…there must be incentives for both the sales person and the company.
Further there is the down line aspect, earning off others….how this works out within the commission scale. is equally important.
Hello,
I’ve been looking everywhere for help. I was moved in to sales 8 months ago and was promised a raise and compensation plan- I reached out to HR and managers numerous times for my plan- nothing was ever given to me. I sold in the mean time and was finally given a goal of $500k. I surpassed that and was still not given compensation or a plan to even tell me what I’d get for reaching and surpassing my goal. I was let go on Monday due to “the economy”. I was handed a check for 2222.00 for my “commission”. After looking at what they sent me, it turns out I received 2% of the gross profit margin. Does this seem low to you? I was never given a plan, so I was confused to receive a check and then even more confused when looking at the small percentage. Could you explain if this situation is normal? Thanks!
no such thing as normal, besides consider yourself fortunate you got any check at all.
Interesting article. I am attempting to provide more commission-based opportunities, and this has given me a feeling for which way to go with it.
No need to respond to above since we talked on the phone. Per my CPA they do not need to be set up as a business entity to accept a 1099.
Hello
I have hired a sales person and want to put him on a salary plus commission. How do I figure out what percentage of commission would be fair to my salesperson and to my company so that we dont end up losing money?
Thanks Mae
Mae
read the post i will help you, however simply, determine the gross profit in the sale. Determine how many sales you expect him to make per week.
Determine what you want him to earn and then split the profit accordingly so it all works out.
Interesting.
I wonder if any of you might help me out with a question I have?
I want to sell my designs for textiles and rugs to production companies.
How to go about the royalties ?
Hope some can help me out with advice.
Thank you so much.
Sincerely
Jacquiline
I believe there are probably industry standards and guidlines, current practices, check out the industry, make a few calls, you will find out much by asking…
Sorry I have no personal experience in this industry…
dt
I came to work for a company that has been wanting to hire me for sometime. I worked for a company in the sales position previously and made well over 100K. I was offered a job in the sales position with the new company and was offered 70K + commission. I have since tripled his business and still have not received any commission. I spoke with him and he said that he was not able to pay me the commission. I believe he is trying to pay off his debt.
I am frustrated and have been looking for other jobs.
Any suggestions?
Hi We are getting ready to hire a sales person our average sale is $43.00 We are a fertilization company and we usually put on 5 applications at $43.00 per app for a total sale of $215.00 Our costs are $24.00 of the $43.00 could you tell me a commission scale that makes sense. Were new to this and need help.
Thank you for you article. I would like some guidence on the commission piece. Are commissions generally a % of sales or a % of the base salary? Up to now my experience has been with bonus plans. Now I’ve been asked to look at commission. We are a new business and have guaranteed a salary for the 1st year of 58k but following that will be part base salary and part commission. I’m not sure what would be fair.
Hi,
I have been employeed as a commission only sales rep for a large company for 10 years. Recently the company has required certain(not all) commission only employees to perform acts of manual labor(installation of products, disconnection of services, etc…) as part of their job with no form of additional compensation. Is this legal?
It is probably legal, but the real issue is between you and your boss regarding reasonable compensation. Consider the added activity a requirement for the job. Negotiate or leave or accept the requirements.
I quit my sales job at a large grocery distributor do to there reconstruction of commissions. Over a little more than a year my position was renamed 3 times and my pay went from 80k to 30k. Each time i was told my position was eliminated and my only choice was quit or accept new position.I finally just quit an took a job with a competitor for 2% commision and i have to build my own route. I just worked my first day and I am wondering how long I should consider working for nothing. I have many customers that trust and like me that I believe will buy from me.It’s just scarey not knowing how long it will take to build up an income. I really am a great asset to this new company with all my experience and customer knowledge. I just wonder if I can build a route to generate any income fast enough. Is he using me? Is there any advice you can give me?
I have one more question. When I left the first job i had for 6 years they paid my vacation i had aquired and saved up at the new lower pay. Even lower than new pay as it was only the base and not the new commission added. They paid me 9.50 an hour for my 155 hours of vacation. I was making 80 k for some of the time then 23 an hour for part of it then 9.50 plus commission at the end. They paid it all out at 9.50 an hour ..tell me this is illegal please. I believe they wanted all of us experience well paid in the past employees to quit…it’s so sad. We all understood economy and pay cuts but this was all so extreme none of us can understand it.. can you?
Kathy
You have to project how much business you can bring over and what the 2% will be worth…if it is worth it do it, if not go elsewhere. Good sales people are valuable assets find a business who appreciates your value. Do not work for nothing. Value yourself.
Sounds truly dumb…I do not believe they are accruing your vacation time properly, check with the local Labor boards as it is controlled by state law.
We have recently purchased a little antique shop. It is stocked but has a poor history of sales. It is owned by a non-profit. We do need to staff the place. We have no history to determine what to pay the employes and have discussed commission only positions. The staff is willing to work this way but I have no idea how to set the commission percentage. Can you give an idea of where to begin?
Mr.Todrin,
I am presently working on getting a small company to hire me as a sales rep. (I’m not sure they have any…. If so they are doing a bad job.) They sale traps for “Moles.” They are hand made in America, and of all traps available these are the best. I bought one years ago and caught 39 moles with it, before a coyote carried it off with a mole in it. It took me over a year to find where they were made. The company has no web site. Though I live in OK, I had to buy one in AZ. My plan is to be a rep for them, and go to all 77 counties in OK, find every feed store and show them how well they work.
I am a professional comedian (22 years) so I don’t have any problem talking with people or large crowds. What would you suggest as the best method for being their sole rep for OK? And How much commission would be appropriate for such an endeavor? You may contact me directly, if you choose, at my email.
Thank you for your time.
Ed Hart
able2think@pldi.net
I have been offered a part time sales position with a very small but well established company who is wanting me to launch a new concept nationwide. The only reason I have this opportunity is because I have worked with (not for) them and the office mgr thinks I’d be “exactly what the owner is looking for”. I have approx 10+ years of industry sales experience but have never been in management nor been asked to do something of this magnitude. They have never had a sales person and the owner has asked me what I would like to be paid. It will be mostly phone work with occassional travel. I get the feeling he would like to strictly pay commission so could you please help me with a fair compensation proposal in this difficult economy?
Lea
I would be glad to help you, however I need more information such as what are your expectations for revenue over the next three to five years, what are the profit margins, repeat business potential and average sales invoice. Weather you are on the phone or in person you are creating new sales and should be paid well. I can offer you no more without knowing the above info.
I started doing sales for a company 2 years ago. Established my own customer base.I draw 1100.00 per week as a base salary. This year my gross Sales are 1, 920,000.00 for the year. Originally is was to be 10% of the gross on commission after a base of 549,120.00 in sales had been reached. Now the owner is rethinking his percentages. He is saying it should be more like 3%. because hes not making money. What are your thoughts.
He is being greedy, he made a deal he should stick with it, you are performing you should be paid.
If sales commission is say 5% of the monthly for a 3 year term contract. Is is expected that payment of commission is made every month for the period of 3 years?
What happens if there are changes in staff prior to 3 year period?
also is this an administrative nightmare if managing multiple contracts…?
Pay starvation base salary, get starvation results. Pay excellent base, so good the people can’t afford to leave and you get the best results. that is why all the most successful companies pay their salespeople a very good to excellent base pay.
Low base pay = low quality salespeople.
Also unti very recently industrial sales people were paid a standard 10% on gross or about 43% of the margin. Now in some industries it is 9% Here in Southern California, rooms cost $500 per month. Do you want your salesforce living in boarding houses?
Hi,
I have been employeed as a commission only sales rep for a large company for 10 years. Recently the company has required certain(not all) commission only employees to perform acts of manual labor(installation of products, disconnection of services, etc…) as part of their job with no form of additional compensation. Is this legal?
DEPENDING on the state, most States consider it illegal. If you were hired for sales, you do sales and sales related functions. If you suddenly have to perform installs which eat into your selling time, they have to pay you hourly because a commission only salesperson is an independent contractor and they are breeching both Federal and State TAX Codes when getting labor for free without taxes taken out plus they are also breeching mininum wage laws. Independent Contractorts can not be told how to do something, they are completely independent.
Hello, I need to design a system of commissions for direct salling. . How do we have to charge commissions?,
There are two types of commissions: those that are given to the sales representative (30%) and those that are given to zone sales managers (10%), how do we calculate these commissions?, The managers commissions are calculated on the total sales?, on the profit of each sales representative?
regards
Andre,
there are many choices and many variables as I have discussed in my post. There is no one right answer as there are many factors to be considered, Please re-read the post and do the work to figure it out, I would be glad to review it but I do not have enough information to engineer it for you.
Hi Don,
Firstly nice article, this has definitely assisted, though my current situation is a little out of the norm and I am perplexed as to how to approach this. I have found a way to generate considerable income to my current employer. This would be in the region of around 100,000 per year, potentially higher. The actual work required to maintain this level of in-coming revenue is fairly little-$5-20,000Max so it seems hard to justify a high percentage of that being paid to me. I have one shot at this when I put forward the proposal, then they could basically do it themselves, though they would never have this “easy” money either if it weren’t for my initial findings. I am considering 20%, am I justified to request this in a situation like this? – i do understand you can only suggest. Many Thanks, Paul
Paul, If they value your ongoing potential, if you can continue to add value then why not go for it, it is a high commission, but if it is a one time shot ad thats it then yes you earned it but it really depends upon their willingness to honor your effort and share the results, ask for it, it can’t hurt.
I own a small business and have a sales staff of 8 account reps. In the past I paid my sales team a 30% commission and created many different bonus options as well. The middle of the pack guys made about 50k a year and the top guys around 125 to 175k a yr. I didn’t do any marketing or advertising and it to make it the salesman had to really work hard. I have over the last 3 to 4 years invested a lot of time moneyand effort into advertising and marketin. The low end guys are now making at least 150 to 175 and the top end are making around 300k
To 400k and they are now only picking the low lying fruit,so to speak. Their jobs have become so much easier and I feel they are being wayyyyy over paid. The sales guys are nice but they wouldn’t / couldn’t earn anywhere. Near these amounts anywhere else in my industry and certainly could not make more than 50k to 100k in any other job that they could get. Are there companies that can be hired to research my company and the market conditions and help me determine a new and fair compensation plan for my sales team. I want to be good to my guys as they have been loyal but I’m feeling like they are being paid far too much for the work they do. Any help would be appreciared.
Make the changes based o what you have done to bring revenue in and be prepared to lose men and retrain and go forward, best thing that could happen is to turn over the force.
dt
Also, how do I transition to the fair structure without rocking the boat. I have always been a man of my word and I feel like I am going back on my word if I change the structure now but on the other hand I feel like they are just taking advantage of me.
Your not violating your word, you have changed the playing field with all your marketing, the adjustments are appropriate, it is not a breach of your word at all, do it.
? for you. We want to hire an outside salesman. Commission only, 1099 and
his expenses (gas) will be on his onus
because we are willing to pay a higher commission rate. under this scenerio
is 10% commission on all his sales generated present and future sales
acceptable in the industry? We are willing to give him 5% on the sale and 5% upon delivery of product, is this the norm?
I do not believe in norms. it depends upon volume profit and what you want your sales reps to earn, and no you should pay commissions after you get aid from the customer give a draw and then commission at the end of the month for product delivered and paid for.
Thoughts on decreasing commission after the initial sale? My sales involves, for the most part, repeat customers. My commission on a new client is 20%. Any other sales after that year is reduced to 5%. This huge gap is an issue for me. How do you account for an increase in that client’s volume in year 2? Not much motivation to “work” that client from a commission perspective, but that goes against my nature to not continue to grow and nurture that relationship. Think management would be open to suggestions; just has no idea how to approach this (this type of sales is new in last 2-3 years).
Thoughts on reducing commissions after the initial sale/new customer? My commissions go from 20% on a new client (year one) to 5% for all future sales. How do you account for a growth in volume in year two, when you’re paying 5% across the board? Hard to be motivated to “work” a customer from a commission perspective, although it runs against my nature to NOT nurture and grow the relationship with my customers…
I understand your dilemma,however the repeat business should be commissioned for less. The issue regarding their incentive tio service the account is a management issue. The size of the commission should not be an issue, the job is to service all accounts to the best of ones ability irrespective of the commission amount. Lower the repeat commissions and manage your sales force, if that does not work, pull the account altogether and have in house service for all second orders and beyond and just commission on new business, that works.
Im working for a gold buyer that pays me $11.50/hr plus commission 1% for $90000 and up to 5% for $140000 or higher..now the average sales right now is $85000 per month and he has a 55/45 profit margin should I renegotiate my commission rate..
Always, if you are performing a valuable service and making the company money, you should be negotiating more wages.