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Competency pay vs. traditional pay vs. skill-based pay

Benefits of competency-based pay

Challenges of competency-based pay

How to implement a competency-based pay plan

What is competency-based pay

Competency-based pay is a compensation system that links employees’ pay to their demonstrated knowledge, skills, abilities, and other job-related competencies. 

Rather than basing pay on seniority, job title, or other factors, competency-based pay rewards employees for their individual abilities, skillset, and contributions to the organization.

The pay structure requires a systematic and objective evaluation of an employee’s competency level, typically determined through assessments and evaluations. Once an employee’s competency level is established, their pay is adjusted accordingly.

Competency-based pay provides a fair and transparent method for determining pay, as it rewards employees based on their individual contributions to the organization. It can also motivate employees to improve their skills and knowledge and push their comfort zone as they know their pay is directly tied to their abilities and performance.

Competency pay vs. traditional pay vs. skill-based pay

Competency-based pay, traditional pay, and skill-based pay are different compensation strategies. 

Competency-based pay

As mentioned, competency-based pay rewards individuals for their individual abilities and what they bring to the company. Payment is determined by their skills, knowledge, abilities, and other job-related competencies. 

Traditional pay

Traditional pay is based on seniority, job title, and other factors. In this type of pay structure, employees are typically paid based on their job title, years of experience, and their level of education. The approach does not take into account an employee’s individual abilities or performance.

Skill-based pay

Skill-based pay is a compensation strategy that links an employee’s pay to the specific skills and knowledge they possess. In this pay structure, employees are rewarded for acquiring new skills and knowledge relevant to their job. This approach encourages employees to continuously develop their skills and knowledge, which can benefit both the employee and the organization. 

While competency-based pay focuses on the broader competencies an employee brings to the table, skill-based pay focuses on the specific technical skills and knowledge an employee has. Both types of pay structures are designed to reward employees for their skills and abilities, but the criteria for evaluation and the focus of the evaluation are different.

Benefits of competency-based pay

There are several advantages of competency-based pay, including staff retention and sparking ambition for self-improvement. Consider the following perks of a knowledge-based pay system.

  • Incorporate fairness as the pay structure provides a transparent method for determining pay based on employee performance
  • Motivate employees to improve their skills and knowledge and take ownership of their professional development
  • Improve talent retention by providing a clear career path and opportunities for growth and development, adding to a positive work environment
  • Improve performance by encouraging employees to focus on their competencies
  • Create alignment with organizational goals

Challenges of competency-based pay

While there are many benefits to competency-based pay, there are also several challenges associated with implementing this type of pay structure. Some of the potential disadvantages of competency-based pay include the following.

  • Defining the competencies required for each job requires a systematic and objective evaluation of the knowledge, skills, and abilities of each position
  • Assessing competencies fairly and objectively can be challenging, and competency assessments must be valid, reliable, and unbiased
  • Risk of subjectivity as the evaluation of competencies is often based on the opinions and judgment of managers and supervisors
  • Additional administration is required as a competency-based structure can be complex and demands ongoing monitoring and assessment of employee competencies

How to implement a competency-based pay plan

Implementing competency-based pay systems requires careful planning and consideration of several factors. Consider the following steps.

Build a competency framework

Start by identifying the specific knowledge, skills, abilities, and personal attributes required for each job. Then, develop a framework for assessing and measuring these competencies. By doing so, you ensure employees have a clear understanding of the skills and knowledge they need to be successful in their roles.

Create criteria for competency assessments

Criteria should be designed to assess an employee’s mastery of the required competencies and ability to apply them in their job role. When drafting the assessment, ensure the criteria are objective, measurable, and aligned with the organization’s goals and values. There should be a clear path for employees to receive pay increases. 

By creating clear and consistent criteria for assessment, organizations can ensure employees are evaluated fairly and consistently. The process also ensures pay is based on demonstrated competency and performance rather than subjective factors.

Enable growth with learning and development opportunities 

If you plan to reward employees for their competency, you must enable growth through learning and development systems that help them advance their skills and knowledge. 

Consider offering training, mentoring, and coaching programs aligned with the organization’s competency framework. By investing in employee development, organizations can improve employee performance, retain top talent, and ensure the workforce has the skills and knowledge needed to meet business objectives.

Track skill development

When offering a competency-based pay structure, the payment must be fair and current. Tracking employee skills development involves monitoring employee progress and following the development of their skills and competencies over time. 

The process includes setting clear goals and objectives for employees, providing regular feedback on their job performance, and tracking their progress toward meeting these objectives. Consider performance appraisals as an effective method of performance management and monitoring.

Tracking skill development ensures employees continuously develop the skills and competencies required for their role and that their pay is adjusted accordingly. In addition, tracking skill development can help identify areas where additional training or coaching may be needed to improve employee performance and drive business success.

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