By Trüpp’s Compensation Team
The trend toward remote work is not new but was dramatically accelerated in 2020 as organizations pivoted to adapt to the pandemic. Because many organizations saw positive outcomes, we now see businesses embracing remote workers as a new or expanded workforce strategy. While beneficial, this change has presented new challenges, particularly when accommodating variations in pay rate resulting from a workforce being distributed across multiple states. This variation in pay rate for employees in different regions is sometimes referred to as a geographic pay differential.
Savvy employers are reviewing their compensation plans to account for regional pay differences that will best align with their organization’s business framework and compensation strategy. Many businesses did not have the luxury of defining a distributed workforce compensation strategy before pivoting to a remote workforce. Even those that did likely need to make updates to accommodate the demands of the current job market and the distributed talent pool brought about by remote positions that can be filled across the nation.
The importance of a well-defined compensation strategy
Before diving into geographic pay differentials, it is important to note that establishing a compensation strategy is a valuable tool for organizations that choose to adopt a distributed workforce business model. Once in place, a compensation strategy provides predictability for forecasting and budgeting, aids in attracting and retaining top talent, and reinforces fair pay practices within your organization. Having a well-defined compensation plan and applying it consistently across the organization is key to avoiding pay equity concerns, inconsistent pay decisions, and uncomfortable conversations when determining employee pay. For example, managers can easily justify pay decisions by referring to the defined compensation strategy when answering employee questions about pay practices or requests for out-of-cycle raises.
Why consider geographic pay differentials in your compensation strategy?
Organizations that don’t have a strategy in place that adjusts for regional differences in pay run the risk of budgeting inefficiently for salaries. It is easy to overspend in an area where the cost of living or the average pay and demand for a position is lower. On the other hand, high-demand or specialty positions will require more competitive pay in some regions. Exceptional candidates are likely to turn down positions that pay less than is customary in their location, narrowing the candidate pool to less qualified applicants.
Aside from the budgetary considerations, there is a greater risk of losing employees if pay is not set strategically to attract and retain top talent. The cost of hiring and onboarding new employees far exceeds the cost of maintaining a qualified workforce. Ultimately, employees who feel fairly compensated tend to be more engaged and have greater longevity, while subjective and unsupported compensation decisions result in frustration and higher employee turnover.
What are the options for distributed workforce pay practices?
There is no one-size-fits-all solution for addressing pay differentials across geographic regions. Your compensation team should consider factors such as the size of your workforce, how many and where your current employees are distributed, the number of similar positions in your organization, national vs. regional competition for talent, the regions that candidates you are looking for tend to be located, and the level of specialization required for the position.
There are several models for addressing regional pay differentials; this article will discuss three practical approaches.
Standard Pay Rates.
A standard pay rate is based on the national average, the location of the organization’s headquarters, or some other polarizing factor. Employee’s compensation is based on the same rate without adjustments. While employers who adopt this model enjoy a less complex pay strategy, it can negatively impact hiring for talent that is in high demand or located in a more expensive location, such as San Francisco or New York City. The Standard Pay Rate Model is ideal for smaller companies that draw most of their employees locally or for organizations with positions whose pay rates have little fluctuation nationally or attract adequate candidates from areas with a moderate cost of living.
Regional Pay Differentials.
The Regional Pay Differential model bases pay decisions entirely on where an employee is located and the average pay rate in that area. Pay rates are generally established by the cost of labor or cost of living in the city or metropolitan area where the employee is located or, in some cases, by a larger geographic region such as the Silicon Valley or the Research Triangle. While this model accommodates greater precision, it presents challenges because it requires research each time you extend a job offer for a new region. In a highly competitive labor market, this time can result in losing desirable candidates late in the recruiting cycle. The Regional Differential Model is ideal for small businesses, organizations hiring for highly specialized positions in a specific department, and organizations with multiple locations or with employees that need to be based in specific geographic locations.
Geographic Pay Zones.
The Geographic Pay Zone Model begins with a standard pay rate and then establishes categories, or geo zones, with a predetermined adjustment for higher or lower markets. Various cities and regions which may or may not be contiguous are assigned to a geo zone. For example, an organization may use the national average to determine the pay range for a UX designer; however, if an employee is in a higher cost market like San Francisco, which has been assigned to a +10% Geo Zone, their pay rate will be adjusted accordingly. The Geographic Pay Zone Model is ideal for larger organizations, entirely remote companies, businesses with many employees in high-demand positions or with employees located in many different locations.
How do you determine what’s suitable for your organization?
An organization should select the best-aligned method for recruiting and retention goals, available resources for researching and establishing pay practices, and the demand for similar employees in other markets. If employers are hiring for positions in high demand, those candidates will expect more competitive pay. Likewise, if employees are in high-demand positions, they might be tempted to leave if they can get better pay from another company. As mentioned above, positions in high demand or that require specific skills are best suited to the Geographic Pay Zone and Regional Pay Differential options, enabling organizations to offer higher pay. Positions that are easy to fill regardless of the location are ideal for a standard or national pay rate.
Once an option is selected, ensure it is clearly outlined in your compensation strategy and detailed in your pay practices. Establish and maintain a compensation structure that considers overall wage distribution and job levels. Once a structure is established, it is crucial to continuously review and update it to reflect changes in the market and your organization.
Learn more about the importance of a compensation strategy to your business