Understanding Salary Structures: How Do Fixed and Variable Components Work?

Hi all,

Can anybody guide me on the salary structure? I am not asking about the typical salary structure but rather about a combination of a fixed amount and a variable amount. Could you explain what the fixed amount represents in a salary and what the variable amount entails? Is the variable amount calculated based on achieved targets? Are incentives and variable amounts the same, or are they different concepts?

I appreciate your support.

Thanks,
Vandana Sharma

Hi Vandana,

Which industry? What categories are you referring to? Many organizations follow different methodologies.

Fixed Component: This should have Basic HRA and other allowances, and this is adjusted every year based on the market and inflation.

Variable Component: This is paid based on performance. Many follow different methods. Some organizations pay a lump sum every year based on rating. Some companies, mostly in IT, decide on a variable pay every year, and this amount is paid as a monthly payment. Next year, this is withdrawn, and they get an amount based on the rating. Some may not even get this payment.

If you want nitty-gritties, then please specify the exact requirements.

Siva

Dear Mr. Siva,

Thank you for your efforts in responding to my queries. We are a service industry that provides training and education programs related to retail economics and finance. The company intends to offer a variable amount based on performance. I am unsure if this is related to incentives or if it is something different. I did not fully grasp your explanation of the variable amount, so I would appreciate further clarification on the matter.

Thank you and regards,

Dear Vandana,

I won't dwell here on the base minimum salary that you should pay to your employees based on market conditions and inflation.

Now, on the subject of Variable pay, many methods are followed. I will give a few examples:

1. Lump sum

This is a very traditional method that was originally used for very senior executives as a commission but has now been extended to all categories. It is always linked with profit, and the percentage is decided based on the profit. For example, if your profit target is 1 crore and you achieve 75 lakhs, then the commission or bonus payable is only 75% of the agreed amount.

Many organizations used to state that executives are eligible for 100% of their basic salary as a profit-sharing bonus or commission based on the appraisal. They would then decide at the end of the year, based on the profit, the percentage to be paid. In any case, it won't exceed 100% of the agreed amount. This is a very old conventional but still a simple method.

2. Lump sum on appraisal

Organizations revise salaries every year based on market and inflation and cannot differentiate between employees. So, they conduct this exercise annually. They also appraise employees every year and categorically decide the lump sum payable for different ratings. Here is an example:

Grade 1
Rating A - Rs 10,000 as lump sum
Rating B - Rs 7,500 as lump sum
Rating C - Rs 5,000 as lump sum

Grade 2
Rating A - Rs 7,500 as lump sum
Rating B - Rs 4,000 as lump sum
Rating C - Rs 2,000 as lump sum

This is just an illustration and the amounts go into lakhs.

3. Monthly Variable

Some organizations, mostly IT companies, based on ratings, decide the monthly variable amount payable for different levels. Sometimes the rule is so flexible that they decide for the individual as well. This is paid as variable pay every month with the condition that this amount will be withdrawn at the end of the year. This is similar to the lump sum method, but the financial burden is spread over a year. With attrition so high in the industry, they prefer to make payments as long as the employee is with the organization.

4. Incentives

Mostly salespeople are given incentives based on targets.

This is a complex subject, and I hope this information has given you some insight.

Hi Guys!

I need to understand two components of the salary, namely LTA and medical reimbursements. Could somebody shed some light on how the LTA (which is a part of the employee's salary but is shown as an annual component) is paid in case the employee leaves the organization, say within three months.

- Are these components paid in the full and final settlement?
- Are any bills required?
- What is the tax liability, if any?

It's a little urgent.

Warm Regards,
Aarti

Aarti,

It is paid on a pro-rata basis. For example, if an employee has worked for three months and resigned, and his yearly eligibility is 12,000 rupees, then for three months, he gets paid Rs 4,000 as LTA on a pro-rata basis.

LTA is not taxable twice in a block of four years. Have a consultation with the Accounts department. If you want more information on tax, I can provide examples.

Siva

Thank you for the information, Siva!

But does that person have to provide some supporting documents, or is it paid in full and final? Please shed some light on the medical reimbursement as well.

Warm Regards,
Aarti

Hi,

He is paid in full and final. If he provides the required support documents, do not deduct tax as applicable. Please follow the same principles and methods in the case of medical reimbursement as well.

Siva

Dear Mr. Siva,

Thank you very much for helping me understand this issue in detail. Your knowledge will assist me in designing this variable amount. Thanks again for your help.

Regards, Vandana