A merit increase is a performance-based raise added to an employee’s overall salary. In other words, it is given as an incentive for exceptional performance. While typically done annually, it can also be given any time, depending on the company’s budget restrictions. Additionally, employees might receive varying amounts of merit raise based on the criteria set by the company. For example, high-performing employees might get a higher percentage increase than the average performers.
Companies have often used merit increase as a tool to retain top or high-performing employees or to boost employee morale and productivity. However, a lot of employers often confuse a merit increase with COLA, pay raise, incentive, or an equity raise. This article serves as a guide to the differences between these increases and delve deeper into what a merit increase is.
Comparing Merit Increases to Other Types of Salary Increases
To better understand what a merit increase is, we also have to look at the different types of salary increases, including various scenarios when they should be given.
Who Gets a Merit Increase
Who gets one depends on the criteria you set, but the primary driving factors should be performance and productivity. Additionally, the key performance indicators (KPIs) you’ll use will depend on the industry you’re in. For example, the KPIs of a content marketing team could include the quantity and quality of the articles, as well as how much traffic it drives or its click rates. On the other hand, KPIs for sales teams might include hitting their quota, how they handle customers, and more.
Using a performance review system can help companies easily monitor employee performance and allow them to give an objective assessment of each employee’s contributions and achievements.
When to Give a Merit Increase
While it’s true that merit increases are based on the employee’s individual performance, when do you know that it’s time to give that merit pay increase? Use these four criteria to guide your decision:
1. Role Difficulty
The complexity and responsibility of the role is the primary foundation upon which their merit will be evaluated. Naturally, roles that are more difficult need a more specialized skill set and could be subject to a merit increase later on.
Additionally, you should also consider the replaceability and scarcity of that skill set. How difficult is it to fill the employee’s role in case they decide to leave? If it will be difficult to find a replacement or get one with the same specialized skills, giving a merit increase as a retention strategy becomes most important.
2. Financial Impact
Does the employee’s performance have a financial impact on your business? This criteria evaluates how significantly an employee contributes to the organization’s bottom line. If that employee contributes to the company’s revenue, saves you money, and helps improve efficiency, it’s time to acknowledge and reward their positive contributions with a merit increase.
3. Error Impact
The ability to work precisely with minimal errors reflects the quality of an employee’s performance. High-impact errors can have serious consequences on a business, such as reputation damage, legal issues, or financial losses. By evaluating an employee’s performance on how they reduce mistakes over time, business owners or managers can assess how reliable they are. Recognizing employees who maintain a low error impact can encourage them to continue their exceptional performance.
4. Strategic Impact
Strategic impact is how well an employee aligns with and contributes to the vision and long-term goals of the organization. Employees who show a deep understanding of their roles and consistently contribute ideas to advance the company’s goals are candidates for merit increases. Giving them an increase further reinforces their sense of being valued in the organization.
Why Does a Merit Increase Matter
Aside from improving employee retention and boosting employee morale and engagement, there are a number more reasons why a merit increase matters to your organization.
Gives You a Competitive Edge
The competition to attract top talent is fiercer than ever. One way to win the talent acquisition game, according to McKinsey, is to have a competitive compensation and benefits package. This is particularly important if your organization belongs in an industry where talent is in high demand.
Aligns Business Goals
You can use merit increases to align employees’ individual efforts with broader business goals. By rewarding exceptional performers, you are sending a clear signal that each individual contribution is valued and contributes to the overall success of the company.
Saves Money
Recruiting an employee can cost up to 200% of their salary. Meanwhile, a merit increase can only cost you between 2%-5%—that’s a huge disparity between the expenses associated with talent acquisition and the investment you need to retain and motivate existing top performers.
Drives Loyalty
A merit raise boosts employee morale which, in turn, boosts productivity. Aside from that, a study conducted by Kellogg Insight showed that even a slight increase makes an employee more attached to their job and their employers.
Best Practices for Implementing a Merit Increase
If done right, merit increases can boost employee engagement, recognition, and productivity. However, it can become subjective and influence the decisions around it. Here are a few guidelines to eliminate as much unconscious bias as possible:
Your compensation policy might involve giving employees different types of rewards for the increase. It could be in the form of company shares or a percentage increase on their base salary. No matter what manner or form you’ll distribute the increases, clearly communicate to the eligible employees what type of compensation they will receive.
Clearly define the key performance indicators (KPIs) you will use to evaluate the employees. These metrics should be objective, measurable, and aligned to your business goals. Doing so reduces the likelihood of unconscious bias and establishes a standardized basis for your decisions.
Having a merit matrix in place can help you determine the right amount for an increase and how it will impact your budget. It should outline the relationship between performance levels, their corresponding merit increase percentages, and the percentage of your budget. Here’s a simple merit matrix based on these three criteria:
- Performance Level – indicates the category that employees may fall based on how their performance was evaluated
- Merit Increase Percentage – indicates the increase they will receive based on their performance level
- Percent Budget – indicates how much of the total budget is allocated for each merit increase. It gives a clear overview of the budget distribution among different performance levels.
Assign an expert who can identify any biases that might have been overlooked to monitor and review the decisions. Check how merit raises are awarded to employees with similar performance levels. If there are any inconsistencies, make the adjustments immediately to avoid inequity.
Bottom Line
Merit increase is an effective tool to boost performance, drive employee engagement, and improve retention. However, you also need to be aware of any unconscious bias that might affect your decisions. Setting KPIs to define eligibility and creating a merit increase matrix can reduce the possibility of biases. Use this guide to help you get started.
