When discussing sales compensation, sales reps, and sales managers often focus only on the most obvious issues: quotas and commissions. The sales reps care about earnings. The sales managers care about results.

But it’s a lot more complicated than that.

For Sales Compensation, The Devil Is In The Details

To protect the interests of all parties involved, make sure your sales compensation plan spells out in detail much more than just the quotas and commission formula. Specify the terms and conditions which make it clear when commissions will be paid, how overpayments will be recovered, and what happens when there are changes in responsibilities.

Maintain an agreement that is updated at least once a year and signed by both the rep and the manager. Be sure the plan—and the manager—explain all the terms and conditions clearly.

A clear and complete plan minimizes misunderstandings and disputes. And it saves a lot of time—and heartburn—all around.

Disputes resulting from a misunderstood or poorly drafted compensation plan can produce very bad results, including lawsuits. These clashes due to unclear plans chew up a lot of valuable time for HR and Finance department staffers, sales managers, and sales reps. They can also cause bad morale and staff turnover.

Five Elements Of A Well-Designed Sales Compensation Plan

A well-designed sales compensation plan covers five key areas:

  1. Commission payments
  2. Overpayments
  3. Dispute resolution
  4. Denial of commissions
  5. Changes in responsibilities or territories

1. Commission Payments

Clearly spell out how and when commissions are paid, focusing on these three components: the payout formula, the payout trigger points, and the timing of the payouts.

1. Payout Formula—State the formula used to calculate commission payments.

Commission Percentage—Will you pay the same commission percentage on every transaction regardless of product sold or whether the customer is a new customer? Or will the commission vary depending on the type of client, the product or service sold, and the profitability of the sale?
Commission Threshold—Does the commission apply to the first dollar of sales? Or does the sales rep need to hit a threshold (meet a quota or cover her salary, for instance) before earning a commission?

2. Payout Trigger Point—What triggers a commission payment? Define the point at which commissions are actually earned. Is it upon:

— Receipt of purchase order or signed contract?
— Invoice to customer?
— Receipt of customer payment?
— Delivery or installation of product?

3. Payout Timing—When are commissions paid? Schedule commission payments to occur during a regular pay period at some point after the commission is earned, usually at the end of a month or quarter.

You want to allow enough time between “earned” (trigger point) and “paid” to ensure that a customer doesn’t cancel.

2. Overpayments

Overpayments can be a big problem. Research firm Gartner estimates that 8% of all sales compensation expenditures are overpayments. That’s $80,000 on a $1 million compensation budget.

Overpayments can occur for several reasons:

— Clerical error.
— Contract cancellation.
— Sales rep or client misrepresentation.

Consider including a “claw back” clause in your compensation plan that requires the rep to pay back the overpayment or allows you to withhold it from future payments.

3. Dispute Resolution

Disputes can arise over a number of issues including the commission amount, timing of the payment, and whether the commission should be shared among two or more sales reps. HR or Finance may handle the first step in the resolution process. But it’s best to designate a senior executive, either the head of sales or the CEO, as the final arbiter.

4. Denial of Commissions

Make sure your plan gives you the right to decide which business to accept and which business is commissionable.

  • Acceptable transactions—Retain the right to reject business that does not meet minimum acceptable criteria such as transaction size, customer credit risk, or profitability. Spell out the criteria in the compensation plan.
  • Misrepresentation—Reserve the right to reject any deals resulting from misrepresentation by the sales rep or the customer.
  • Windfall business—Maintain the ability to deny commission payments on “windfall business” that results simply from your company’s reputation and somehow drops into a sales rep’s lap.

5. Changes in Responsibilities or Territories

During the year, there may be changes in the sales team. You may hire new reps. Other reps may leave. You may reassign responsibilities for accounts or territories.

Spell out how these scenarios will be addressed under your plan:

  • New sales reps join—What will they be paid for and when will their plans kick in?
  • Sales reps depart—For how long after their departure will they be paid? For instance, you could stipulate that they will be paid on business that closes up to 30 days after their departure date.
  • Responsibilities change—If you change a rep’s territory part way through the year, when will commissions end on the old territory and when will they begin on the new one?

As you can see, there are many potential points of contention in a compensation plan. Address as many of these points as possible in your agreements. Both your sales reps and your company will be better off.