Sunk incentive - the dichotomy of performance bonus

Variable pay structure is one of the smartest and most successful pricing strategies ever designed in the payroll systems. How many of you know that every employee having a variable component (performance/year-end incentive) in CTC voluntarily leaves at least 8% (8.33 precisely) of the variable CTC with the employer? To the few of us who think resigning right after receiving the variable pay/incentive helps save this perceived loss, let me tell you, even we are not spared from this excellent pricing trick. Let’s figure out how this tricks work in favour of employers (and help save them money out of each employee’s committed CTC)

The most common remuneration/CTC structure of a formal corporate employee in India has principally two components viz. Fixed pay and variable pay. While the former runs our living expenses, helps pay EMIs or cover other disposable expenditures, it's the latter that every employee definitely looks forward to at the end of the year. Variable pay comes with a few instant gratifications attached to it that make it more lucrative 1) Variable pay as such is a significant chunk of our CTC- The total money credited in account is always more than double the usual salary one gets every month, and 2) It’s the bulk amount that help repay the loans faster, buy household items, expensive gadgets or build corpus for anything we plan to buy someday when we have ‘enough’ cash in hand. 

At the junior level, the component of variable pay usually falls in the range of 10% to 15% of the fixed pay. As we go up the ladder, the figure ranges between 15% to 30% at the middle level. It further goes up between 30% to 50% at the senior levels. Mathematically, about 17-18% of the total CTC of all the employees in a company is paid as variable pay (assuming 60% are in junior roles, 30 in mid-tier and 10% in top-tier). That is, equivalent to two months’ CTC is paid as variable pay for each of the employees working in any corporation in our country. 

It’s really not the structure of the CTC that helps employers save money but the sheer timing of payment of the variable component/incentive that makes it an inseparable part of the salary structure of an employee. Most of such incentives are paid at the end of the year (post March for the companies following the financial year or December for the companies following the calendar year cycle). Typically, companies pay this component within two-three months from the end of the cycle i.e. If the cycle followed is Apr to Mar, the performance bonus/incentive is typically paid in the month of May/June or in best case, it is paid along the salary of April month (best case scenario) subject to the employee still being in the system (not resigning or leaving the company before receiving the incentive/performance bonus). At the same time there, if any employee decides to leave the company, she has to intimate/resign at least one month in advance. Here comes the magic! Taking the best case scenario, even if the employee resigns on the same day of receiving the performance bonus/incentive, by then the employee would have already spend at least a month in the next cycle of the payroll (more in case the bonus is credited in more than 30 days from the end of the payroll cycle-year). 

Following scenarios will help understand the extent of loss we incur in CTC every time we resign:

1. Resigned before the payment bonus/incentive: No bonus- highest loss, equal to the 8% x (no. of months served in calendar cycle) x variable component
2. Resigned on/ after the day of payment: loss upto 8% x (no of months from end of the payment-cycle till the date of resignation)

Intuitively, there is a hack that seems to be most logical to make up the loss in CTC we incur while resigning. We assume that joining a new employer at a higher CTC would intrinsically recover our losses. Mind you, we were anyway getting that hike, covering any past loss from the new CTC remains a shortfall (in the new CTC). Also, once we join the new employers, effectively we are just switching one payroll cycle to another, leaving ourselves within the trap of the same, 8% auto-deduction of variable pay. 

As much as we try to negotiate hard for salaries with the new employers, the deficient variable pay we left on the table with the previous employer can never be recovered. It stays with the employer forever, as a perennial debt owed to employees which can’t be recovered. Sunk cost, as economies defines it, is the cost once incurred that can’t be recovered. Here, all of the employees are unintentionally incurring deductions in the CTC. What should this loss be called? Lost incentive or should we call it ‘sunk incentive’? I don’t know :)