Salary Compression and Salary Inversion

What is Pay Compression?

Pay compression happens when the pay differences among individuals with different levels of experience, skills, level or seniority becomes small.

The article “Addressing Salary Compression in Any Economy” written by Rebecca Manoli pointed out that “Salary Compression occurs when there is little or no differences, coupled with large differences in responsibilities, skill levels or qualifications. The inequality may occur between supervisors and subordinates, between new and experienced personnel in the same position, or between pay range mid-points of successive job grades or related grades across pay structures.”

An example is when new graduates are hired at salaries almost equal to staff with the same job title that has the same educational background but who has 3 to 5 years of experience.

This situation happens more often with hard to fill or hard to retain positions. A second reason is when the internal salary structure is out of alignment with market pay.

A second example is when an operations staff such as waiter got promoted to supervisor. Although his basic salary had increased but he is no longer paid overtime pay or shift allowance. So the supervisor may felt that his subordinate is pay high when compared with him.

A third reason is that salary increases from changing jobs are higher than salary increases from performance related increment or promotion. A fourth reason is no job evaluation is done when new tasks are added to a job or the staff was transferred to another part of the business.

A fifth reason is the impact of inflation on living costs. A sixth reason is mediocre performance that account for the low performance.

What is Salary Inversion?

Salary inversion occurs when the newer staff and less experienced staff are better compensated than experienced staff.

Why Salary Compression is a Problem?

This situation creates a problem for Management. It creates both a financial and a psychological impact. For example, although salary information is supposed to be confidential; current workers do ask new hires, particularly new graduates who are naïve. This knowledge lowers staff morale, raises staff frustrations; prompts staff to leave for better pay elsewhere. The result is that we lose experienced staff that understands our business and gain new staff at a higher cost.

Some Causes of Salary Compression

  • Hierarchical organizational structures having too many levels.
  • Job families with too many levels leading to inability to distinguish meaningful differences between levels.
  • Jobs leveled based on personal qualities such education and/or experience, rather than on differences in levels of responsibility.
  • Narrow labor market ranges that do not accommodate employer’s designated number of levels.
  • Organizational structure itself: too many levels of reporting, including one-on-one reporting relationships, calling into question the legitimacy of the supervisory responsibilities.
  • Reactive hiring decisions relative to “hot” skills.
  • Job classification failure: inaccurate market data and/or internal job comparisons.
  • Hiring manager’s choice to ignore compensation guidelines.
  • Hiring anxiety: being convinced that no candidates are available at designated pay level, plus urgent need.
  • Belief in anecdotal evidence: listening to candidates themselves, as well as search firms/agencies.
  • Tenure-based pay.
  • Paying more for long service regardless of job itself and/or performance (may occur when new supervisor is brought in to manage long-service employee.)
  • General increases.
  • Providing same increase percentages to all employees year after year regardless of existing salaries. This perpetuates existing pay inequities.
  • Similar to tenure issue: does not differentiate based on factors critical organizational success such as performance.
  • Focus is on increases, not on resulting pay.
  • Poorly maintained salary structures.
  • Failure to adjust salary structure(s) (salary ranges) annually based on labor market inflation.
  • Failure to re-design salary structure(s) to accommodate changes in company’s size, reporting relationships, and/or any other developments such as number of grades, distances between grades.
  • Failure to reclassify jobs as changes in responsibility occur.
  • Allowing classifications to become out of date: ignoring significant changes in job responsibilities, reporting relationships, qualifications and so on.
  • Not recognizing job-specific market changes that indicate job classification changes to remain competitive, even when job duties remain the same. This is related to the “hot jobs” issue that can cause compression due to hiring decisions.

Source: “Salary Compression: Practical Solutions to Prevent and Address Pay Inequities” published by Center for Competitive Management

What is Internal Salary Compression Adjustments?

“An Internal Salary Compression Adjustment (ISCA) is used to correct an employee’s salary when an employee’s salary is considerably lower relative to the salaries of coworkers who have the same or similar qualifications. An adjustment seeks to appropriately align employee salaries within an organizational unit to alleviate significant salary compression. ISCA funds are not to be used to supplement an employee’s merit increase.”

Source: The University of Georgia website

This is a form of equity adjustments.

The Correct Solution

The correct solution is to ensure that the company’s salary structure is pegged to the market pay (rebuilding the salary structure)

However, you may note that during the implementation of a new salary structure, the minimum of the salary ranges are often raised.

It is easy to solve the problem if the employer has the deep pockets to pay any salary adjustments and the Management willingly pays it.

Some literature suggested to make sure that pay raises are performance based so as to avoid salary compression. Other ways to deal with the problem include:

  • Redesign the job with the objective to reduce the number of number of people that are using a critical difficult to find skill in the jobs.
  • Reclassify (resize) jobs when the responsibilities and duties change.
  • Communicate to staff on a schedule to raise their salaries over a period of time.
  • Take care in setting the offer pay for new hires by doing an internal equity check
    with other staff in the same job grade.
  • Make internal equity adjustments, paying attention to staff with salaries at either the low or high end of the salary range.
  • For staff that reached the end of their salary range, evaluate whether they have the potential to take up the responsibilities of the next job grade, hence be promoted.
  • For staff that is a under performer, evaluate the need to freeze their pay.

What If Your Employer Do Not Have Deep Pockets

The businesses that have real problems with compression or inversion are the ones that either cannot or are not willing to pay for the correct solution.

If you are stuck working for such an employer: then you know that you have to be selective about which staff you would give a salary increment. Your basic general objective is to attract and retain staff, so that the business can continue. This means that your priority is to target those jobs that you find difficult to find competent workers to fill the vacancies.

Where to Get the Signs?

The place where you will receive first signs of salary compression is at the front line, that is recruitment.

A second place is by annually reviewing market surveys for key positions and for positions that require critical hard to find skills and steadily adjust your pay ranges as required.  This is different from the task of rebuilding your salary structure.

Rebuilding is required for example when the internal salary range for a job grade is much narrower than the market salary range.

Method to Check for Salary Compression

A method to check for salary compression is as follows:

  • Identify situations where you deem internal salary compression issues exist within your unit.
  • Compare job duties, experience, length of time in job, and other factors that contribute to job performance (if appropriate, consider items such as formal training or other educational opportunities) of individuals doing the same or very similar work.
  • Examine and compare salaries of these individuals to determine if compression exists.