HR Basics is a series of short courses, designed to highlight what you need to know about a particular human resource management topic. In today’s HR Basics, we explore how to build a compensation plan, outlining the seven steps used to create a pay structure.

Compensation is pay provided by an employer to an employee in return for work. Building a compensation plan takes you through seven critical steps to formulate a base pay structure and manage your compensation plan. To be effective, compensation must be perceived by employees as fair, competitive in the market, accurately based, motivating and easy to understand. HR professionals might create a compensation plan for their organization, or they might work with an external compensation consultant.

A basic model for building a compensation plan includes internal alignment, external competitiveness and compensation management. Seven steps, or actions are organized in the three critical areas of compensation plan development. Lets take a look at each step.

Internal Alignment. Pay comparisons among jobs or skill levels inside a single organization. How differently should the different types and levels of skills and work be paid within the organization? Internal alignment includes the steps of Job Analysis, Job Evaluation and Pay Policy Identification.

External Competitiveness. Pay comparisons with competitors – other organizations that hire people with same of similar knowledge, skills and abilities. How much do we want to pay in relation to our competitors? External competitiveness includes the steps of market analysis and the development of a base pay structure.

Compensation Management. Making your compensation plan work by addressing individual contributions and clear communication with employees. How do we recognize individual contributions make pay decisions clear to all employees? Compensation management includes the steps of pay for performance and communicating the compensation plan to employees.

Compensation is a critical element of your total rewards strategy. A strong base pay structure is built through internal alignment, external competitiveness, and compensation management.