Key points:
- Variable pay is performance-linked compensation paid on top of base salary, only when individual, team, or company targets are met.
- Common forms include commissions, individual or team bonuses, profit sharing, and long-term incentive plans for senior leaders.
- Around 60% of UK employers link pay rises or bonuses to performance in some way.
- The right fixed-to-variable mix depends on role, sector, financial situation, and what the business is trying to achieve.
- Building a defensible variable pay scheme takes consistent eligibility rules, clear performance goals, and regular pay equity checks – Figures is built to handle all three.
Variable pay is compensation that varies based on individual, team, or company performance results. It sits alongside base salary and is paid only when specific targets or thresholds are met. Companies use it to link pay to outcomes, control fixed labour costs, and reward employees who exceed expectations.
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Variable pay vs. fixed pay: What’s the difference?
Variable pay is compensation paid in addition to base salary, contingent on individual, team, or organisational performance.
Unlike fixed compensation, employees do not receive it automatically each pay period. The amount can change every month, quarter, or year depending on whether agreed targets are met. Common forms include bonuses, commissions, profit sharing, and long-term incentive plans.
Fixed compensation is the amount you pay your employees every pay period regardless of their performance or the company’s financial situation. It’s made up of salary plus benefits like health insurance, paid time off and retirement plans. An employee’s fixed compensation is defined in their employment contract and doesn’t change from month to month unless it’s increased as part of the compensation review process.
In the UK, variable pay must be clearly documented in the employment contract and is not guaranteed unless explicitly agreed. Discretionary bonuses can still be excluded from contractual obligations, but any pay tied to a written formula or commitment becomes enforceable.
Fixed and variable pay work together. Fixed compensation provides predictability and helps employees plan their finances. Variable pay rewards outcomes and ties part of total compensation to performance, with the right balance depending on the role, the business, and the goals the compensation system is designed to support.
Types of variable pay
Variable pay takes several forms, typically grouped by whether they reward individual, team, or company-wide performance.
Individual variable pay
- Commission: A payment directly proportional to the revenue an employee generates. Example: a sales executive earning 10% on each closed deal, with tiered rates above target.
- Individual performance bonus: A lump sum bonus payment tied to personal goals. Example: a 10%-of-salary bonus for hitting agreed KPIs at year-end.
- Management by Objectives (MBO): Pay tied to specific targets agreed between manager and employee. Example: a head of operations receiving additional pay for hitting cost-reduction milestones.
- Long-Term Incentive Plans (LTIPs): A long-term incentive plan is a compensation programme for senior leaders, usually paid in equity over a three-to-five-year vesting period. Example: a CFO receiving stock options that vest if revenue targets are hit.
Group or team variable pay
- Team bonus: A lump sum paid to a defined team when shared goals are met. Example: an engineering pod receiving a flat amount for delivering a launch on time.
- Gain-sharing: Pay tied to measurable team-level operational improvements. Example: a manufacturing line earning a share of cost savings from waste reduction.
Company-wide variable pay
- Profit sharing: A portion of company profits distributed to employees, often as a percentage of base salary. Example: every employee receiving 3% of base if the company hits its annual profit target.
- Company-wide bonus: A flat or tiered bonus paid across the company when business-level objectives are met. Example: a 5%-of-salary bonus paid in years revenue grows above 20%.
When fixed pay works better than variable pay
Paying employees a competitive base salary is crucial if you want to attract and retain talent. That’s because fixed compensation provides employees with a secure and reliable income, ensuring they’re able to meet their month-to-month expenses.
From the employer’s perspective, fixed compensation is simpler to manage than variable compensation, which can involve a lot of admin and calculations. Having a high percentage of fixed pay compared to variable compensation also makes it easier to plan budgets since you’ll have a better idea of how much you need to pay employees over the year.
Variable pay benefits: What employers gain
Variable pay drives exceptional performance when it directly links employee effort to measurable outcomes. Used well, it encourages people to work to their full potential and ties their motivations directly to company objectives, which can lead to stronger organisational performance.
Variable compensation also allows companies to access top talent without having to commit to paying an expensive salary. Because employees only receive the maximum compensation if they achieve their goals, your investment in employees is directly proportional to the value you get from their work.
How to structure variable pay: Finding the right mix
The right mix of fixed and variable pay is different for every business – and even every employee. Here are some things to consider to find the right balance for your organisation.
Across the UK economy, bonus payments add roughly 6-7% on top of regular weekly earnings, with the bulk concentrated in finance and business services.
Around 60% of UK employers link pay rises or bonuses to performance in some way, according to the CIPD's Pay, performance and transparency 2024 survey. Within the private sector, 47% use individual bonus schemes for managerial, professional and technical staff, and 36% for other employees – concentration in revenue-adjacent and leadership roles is the strongest single pattern in the data.
Industry or type of business
All types of businesses can and do use variable pay to reward their employees. However, it’s much more common in companies that sell products or deliver services, simply because it’s easier to measure the link between employee performance and company profits. In different types of businesses, variable pay is more likely to be tied to the company’s overall success than individual goals.
Business segment or department
Roles that are more stable and predictable tend to have a higher balance of fixed vs. variable pay because it’s harder to directly measure their impact on the organisation’s success. For example, employees working in HR or finance rarely receive a lot of variable compensation. On the other hand, employees in jobs with a direct link to revenue, like sales or marketing, are more likely to have a higher proportion of variable pay.
Company financial situation
Companies in stable financial situations can typically afford to attract talent with high base salaries (i.e. fixed compensation). However, those in less secure circumstances may prefer to offer a higher balance of variable pay. Structuring your compensation so that you only have to pay out big sums if the company does well can help you protect your business interests while still driving performance.
Organisational goals
Ultimately, compensation is a tool that businesses use to achieve their objectives. And the right balance of fixed and variable pay for your organisation depends on what you’re trying to achieve. For example, companies that want to push towards short-term goals might opt for a higher proportion of variable pay. On the other hand, those that are more interested in long-term stability might opt for more fixed pay, since this encourages retention.
Employee personalities and preferences
Some employers also take their employees’ preferences into account when deciding on the right pay mix to offer. For example, some employees are highly motivated by variable pay and prefer to have the option to earn more by performing exceptionally. Others prefer the stability of a fixed salary.
Building defensible variable pay ranges sits alongside structured salary bands – both make pay decisions easier to justify when scrutinised.
Designing a variable compensation plan: 4 factors to get right
Implementing a variable compensation plan can be a time-consuming process. There’s also no one right way to do it: as we’ve discussed, the ideal setup depends on your business type, organisational goals, financial situation and other factors that are unique to your business.
Here are a few things to keep in mind as you put your plan together:
- Pay mix: the fixed vs. variable split. This might be different for different teams, departments or even individual employees.
- Eligibility: who qualifies and on what criteria. You may have some forms of organisation-wide compensation and others that are only available to certain teams.
- Time horizon: short-term wins vs. long-term retention. Whether you’re focused on short-term wins or long-term stability. This can impact the type of variable compensation plan you put in place.
- Goal structure: individual, team, or company-wide. Whether goals are set for individuals or a wider group. Some employers use a mixture to incentivise employees to work towards different achievements.
For organisations putting these factors into a documented system, our guide to building a compensation framework covers how variable pay sits within the wider structure.
Variable pay risks: Common mistakes to avoid
While variable compensation plans can be highly effective at motivating employees, employers do need to be careful when putting them together. That’s because, if you don’t put enough thought into your structure, you could end up incentivising the wrong things. This can lead to employees prioritising short-term wins over long-term success – which can have a negative impact on your business over time.
Variable compensation plans based solely on individual performance make for an overly competitive workplace where employees are constantly battling to maximise their earnings at the expense of their colleagues. Instead of working together towards a common goal, they might hoard resources and stand in each other’s way. This can easily become a toxic work environment and lead to problems with employee morale, engagement and retention.
Variable pay structures also carry pay equity risk if eligibility criteria are not applied consistently across comparable roles. For organisations building or auditing a variable pay scheme, this is where a pay-for-performance pay equity review pays off – surface those gaps before they appear in a Pay Transparency Directive joint assessment.
Move from spotting pay gaps to closing them, with budgets attached at the individual level.
Discover pay equity.Putting variable pay into practice
Variable pay can transform performance – when it’s structured well. Get the mix wrong and you’ll incentivise the wrong behaviours, widen pay gaps, or simply waste budget. Get it right and you’ve got compensation that rewards real outcomes, scales with the business, and stands up to scrutiny under the EU Pay Transparency Directive.
That’s where Figures comes in: a compensation decision solution built for UK and European companies. It helps you benchmark variable pay against the market, structure defensible bands, and spot pay equity risks early, before they appear in a joint assessment.
Get a demo to see how it fits your team today.
FAQs
What is the difference between fixed and variable pay?
Fixed pay is the set amount an employee receives each pay period regardless of performance. Variable pay is paid in addition and depends on individual, team, or company results. The two work together: fixed provides predictability, variable rewards outcomes.
What are examples of variable pay?
Common examples include commissions, individual performance bonuses, team bonuses, profit sharing, gain-sharing, and long-term incentive plans. Each ties pay to a specific outcome at the individual, team, or company level. The right mix depends on the role and the goals the compensation system is designed to support.
How do you calculate variable pay?
Variable pay is usually calculated as a percentage of base salary or a flat amount tied to a specific target. For commissions, it is typically a percentage of revenue generated by the employee. For bonuses, it is a percentage of salary contingent on meeting individual, team, or company-level goals.
