Incentive Plan - Meaning, Importance, Types & Example

Published in Human Resources Terms by MBA Skool Team

What is Incentive Plan?

Incentive plans are methods in which employees of an organization are kept motivated for the work that they do, and are given incentives on reaching or accomplishing certain organization goals. The incentive plans can be for lower level employees, middle management and senior management.

It usually comprises of incentives like profit sharing, project bonuses, stock options, sales commission etc.

Importance of Incentive Plans

Incentive plans are very important in terms of maintaining motivation and improving motivation levels for employees or teams. Strategic vision or goals can be defined at organization levels but their implementation and execution is done at each level of the organization starting from the lowest level to the highest executive level. Employees and representatives get proper compensation or salary for the job but that becomes part of the generic hygiene factors. Incentive plans can lead to additional opportunities for the employees to be motivated to perform and grow consistently.

These incentives are either included as part of compensation structure or is over and above it. In either case, they can help employees get motivated to complete the planned goals in expectation of earning additional incentives. These plans can become an important component of the HR strategy in an organization and can be planned as per the goals and level of the employee.

Incentive Plan Types

Types of Incentive Plans

Different types of incentive plans are:

1. Profit Sharing

It is available to full time employees. The organization provides funds/bonuses bases on a percentage of the amount of profit before tax. The employee receives a portion of this fund.

For example, an employee receives a salary. This might be directed to a retirement program. Unfortunately, this method gives the poor performing employees an advantage.

2. Stock options

This option is normally to the upper management. An organization might offer employee stock options to an executive employee for retaining that particular executive.

The employee has the option to purchase company stock at a fixed price without considering the current market price of that company.

3. Performance Bonus

This is awarded to a team or an individual. The organization divides the reward among its team members according to the base salary of every employee.

The organization might also reward a poor performing employee. This is a disadvantage for other employees as well as the team.

4. Sales Commission

When the company is not performing well, it is difficult to recruit sales employee who will be ready to work strictly on sales commission. To tackle this, the organization might offer base salary plus sales commission. The salesperson would definitely receive a base salary which will remain fixed and he/she will receive commission on every sale done.

Examples of Incentive Plan

Incentive plans are plans for low level employees who are at the bottom of the organization’s hierarchy, which mostly includes staffs and first line supervisors.

For example, a software programmer might receive a performance bonus for creating a low cost application which helps the organization in cost optimization.

The middle management incentive plan includes the work group managers.

For example, IT manager would get a performance bonus for completing all the work projects in time and within the budget allocated to him.

Incentive plans for upper management is applicable to executive employees.

For example, a controller for maintaining very high cash flow during difficult times will receive company stock options for such an exceptional performance.

Hence, this concludes the definition of Incentive Plan along with its overview.

This article has been researched & authored by the Business Concepts Team. It has been reviewed & published by the MBA Skool Team. The content on MBA Skool has been created for educational & academic purpose only.

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