What are the components of a commission-only sales plan? Can we pay employees commissions only?

The Fair Labor Standards Act (FLSA) contains an exemption from minimum wage and overtime pay requirements to employees employed in outside sales, as defined by the Regulations, Part 541. Outside sales employees sell employer's products or services to customers away from their employer's place(s) of business, either at the customer's place of business or home. Sales made from the employer's location (inside sales) do not qualify for the exemption. Similarly, sales by mail, telephone or Internet do not qualify unless they are in connection with sales made by personal contact. Some employees performing inside sales work in certain retail establishments may be exempt under FLSA section 7(i).

Sales employees have a direct and measurable impact on the company’s bottom line profit, thus pay structures for sales employees are typically represented in the form of total target compensation rather than a fixed salary.

Elements of a sales plan can be classified into fixed and incentive based. Total compensation may consist of either a commission-only or base salary plus commission component. Sales people may be compensated based on a mix of fixed earnings–base salary–and variable earnings–commissions. Businesses selling high value services or products usually opt for a ratio of between 60 percent/40 percent and 80 percent/20 percent of fixed to variable.

In organizations where sales representatives have greater influence over the buying decisions of customers, a larger portion of the mix should be through commissions. Alternatively, base salary should comprise a larger percentage of the mix where sales representatives do not exert much control over customer buying decisions.

Factors to consider in offering a commission-only plan component include:

• The degree of influence the sales person exerts over the customer’s buying decision.
• The mix of new business to account development.
• The business sales cycle.
• The behaviors to be encouraged (i.e., a high variable component may lead to aggressive selling, while a low variable component may lead to complacency).

The commission component may be paid based on a variety of performance measures directly related to the company’s sales and marketing objectives. There are two types of commission formulas for determining percentages to be paid:

• Flat: The commission rate is a fixed percentage regardless of the amount of sales/revenue the employee achieves.
• Variable: The commission rate may fluctuate up or down depending on the employee’s performance or the measurement used.

To calculate an individual commission rate for an individual so that 100 percent of quota attainment results in payment of 100 percent of the variable target, divide the variable target by the quota. Example: Variable target = $60,000.00, Quota = $3,000,000,000. Calculation: $60,000÷ $3,000,000 = 2 percent individual commission rate.

While many employers pay commissions on a monthly or quarterly basis, state wage payment laws generally define protected “wages” and set forth procedures to be followed when compensating employees. Various state laws include commissions among the “wages” subject to the statutory requirements; however, the laws do little to answer questions as to matters such as:

• How commissions are calculated.
• When they are earned.
• When they must be paid.
• What if any obligation exists to payout commissions upon termination.

To avoid potential disputes over commissions, it is advisable to work with legal counsel to design a written agreement clearly detailing the terms and conditions of the sales incentive pay plan. These agreements may be in the form of a clause in general employment agreements or as separate commission plan agreements signed by the employee.