Compensation management is one of the primary functions of HR, as it plays a crucial role in attracting and retaining top talent.

A compensation package attracts employees towards startups and their decision to stick with them. Several factors, from industry standards to government rules, affect the compensation package.

This article details compensation management, its importance, its types and how you can do an excellent job at it. Let’s get started!

What is compensation management?

It is managing and determining an employer’s compensation to the employees in return for their work.

Compensation management involves managing, analysing, and determining the salary, benefits, and incentives paid to the employees. Compensation management plays a crucial role in attracting and retaining top talent. It includes monetary as well as non-monetary benefits. It also increases employee productivity and reduces employee turnover. 

Additionally, it ensures that every employee gets paid a fair wage based on industry standards, work experience, company budget, etc.

Importance of compensation management in HRM

While the list of reasons why you should focus on compensation management is rather long, here are a few main reasons-

  • Helps Plan Your Budget– Employee salaries are the highest cost for any startup. Compensation management helps determine the costs beforehand and plan the budget accordingly. It also helps plan increments and other benefits based on industry standards.
  • Helps Motivate Employees- Compensation is the key factor influencing an employee’s productivity. A well-paid employee is more likely to work hard for your company and vice versa.
  • Reduces Employee Turnover– Giving adequate monetary and non-monetary benefits helps increase job satisfaction and reduce the rate of employee turnover.
  • Attracts Best Talent– It not only prevents employees from switching jobs but also helps attract top talent. The best talent always looks for a company with a competitive salary and benefits like insurance, paid time off, leave allowance, flexible benefits, etc.

Factors affecting compensation management

compensation management

  • Productivity of workers– Productivity-based compensation helps derive the best results. The higher the productivity of employees, the more should be the compensation. 
  • Ability to payIf your company has high profitability, you can pay better compensation and retain your employees and vice versa.
  • Government Policies– Government also has certain policies to protect employee interests. The employer has to pay the employees as per governmental regulations and provide benefits such as PF, medical insurance, gratuity, and pension.
  • Labour Unions– They also play an essential role in ensuring employees get a fair wage. They fight with the employers for the employee’s rights and wage revision.
  • Cost of Living– Cost of living also influences compensation to a large extent. An employee based in a city with a high cost of living needs a higher salary and vice versa.
  • Demand and Supply of Labour– It is one of the most important factors that affect the compensation of employees. If the demand is more than the supply, the compensation will be higher.
  • Industry Standards– No employee would like to join a company whose compensation is below the industry standards. Therefore you need to analyse the standard market rates of different roles and pay your employees accordingly.

Types of compensation 

The types of compensation are broadly classified into direct compensation and indirect compensation. Let us look at them in detail. 

Direct Compensation

It is the monetary benefits provided by the employer to the employees.

  • Hourly pay– Hourly pay is the salary paid for each hour of work that the employee does. 
  • Salary– Salary is the fixed monthly amount that the employer pays to the employee in cash. 
  • Commission– A monetary reward that is paid based on the performance of an individual. It is generally provided in the case of sales jobs as a fixed percentage.
  • Bonus– A bonus is a monetary incentive paid to employees for their good performance. It is paid over and above the employee’s basic salary. 

[Suggested Read: Salary Breakup – Salary Structure, Format, Calculation & More]

Indirect Compensation

Indirect compensation refers to non-monetary benefits like paid holidays, insurance, and retirement benefits. 

  • Insurance– Employers generally provide employees with medical insurance to ensure good health of their employees. If you are an early-stage startup facing difficulties getting employee insurance, check out RazorpayX Payroll. It provides group insurance packages to teams as small as 2!
  • Paid holidays–  Paid holidays are provided to help employees maintain a work-life balance. 
  • ESOPs– Sometimes, companies also provide their employees with their shares at a discounted price, offering them an additional opportunity to earn. 

[Suggested Read: The Complete Guide to ESOPs (Employee Stock Ownership Plans)]

  • Retirement Benefits– Retirement benefits include gratuity, pension, general provident fund, leave encashment, etc. 
  • Leave travel allowance– LTA or leave travel allowance is the non-monetary benefit provided by the employer to the employee where the employer covers the employee’s travel expenses. 
  • Relocation expenses– Relocation expenses are the benefits the employer provides in case the job requires relocation to a different city. 

The huge number of employees makes manual compensation management tiresome and error-prone. The best way to deal with the payroll of a huge number of employees is to use payroll processing software like RazorpayX Payroll

Try RazorpayX Payroll for free!

Automate compensation management with RazorpayX Payroll in 3 clicks

Here’s how RazorpayX Payroll benefits you-

  • Helps manage employees from onboarding to exit
  • Auto calculates deductions like PF, ESI, and TDS and files them
  • One-click payment of employee salaries
  • Provides best-in-class yet affordable health insurance
  • Leave tracking along with real-time attendance
  • HR management software to access payslips, form 16s, etc.

Automate compensation management


Alish is a writer at RazorpayX. Zoophilist. Coffee Addict. And now a FinTech enthusiast. When not writing you'll find her learning French, taking a long walk (or run) with her dog, or Netflixing.

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