An incentive scheme is a plan to motivate individual or group performance. An incentive scheme basically involves monetary rewards, i.e., incentive pay but also includes non-monetary rewards.

Incentives are variable rewards granted according to level of achievement of specific results. Incentives are payment for performance or payment by results.

In other words, an incentive plan must include in its purview the characteristics of time-based and output-based systems of wage payment.

There are a large number of such plans that are applied in industrial concerns these days. However, before these differ­ent types of plans are discussed, the various requirements of a sound wage-incentive system must be noted.


Learn about:-

1. Meaning and Concept of Incentive Plans 2. Characteristics of Incentive Plans 3. Objectives 4. Pre – Requisites

5. Requisites 6. Guidelines 7. Principles 8. Types 9. Incentives Plans for Managers. 10. Advantages 11. Limitations.

Incentive Plans: Meaning, Concept, Features, Objectives, Pre-Requisites, Requisites and Other Details

Incentive Plans – Meaning and Concept

Many companies have come out with compensation programme that offer additional benefit based on individual, group or organisational performance. They want every individual to think of performance to succeed in a competitive business environment. Every employee has to work hard, deliver results on a daily basis.


An incentive scheme is a plan to motivate individual or group performance. An incentive scheme basically involves monetary rewards, i.e., incentive pay but also includes non-monetary rewards. Incentives are variable rewards granted according to level of achievement of specific results. Incentives are payment for performance or payment by results.

According to Dale Yoder, “Incentive wages relate earnings to productivity and may use premiums, bonuses or variety of rates to compensate for superior performance. Under incentive plan, employees are encouraged to produce more and are rewarded accordingly.”

The term “Pay for Performance” refers to compensation options such as merit pay, commission, individual incentive, group incentive, gain sharing scheme. Pay for performance aims at increasing productivity and lower personnel costs. Under this scheme, the compensation payable is tied to employee effort and performance.

Any action/programme which induces workers to produce more is described as ‘incentive’, and remuneration paid for increased output is known as ‘incentive wage’. As such, the output-based system is a broad or general type of incentive plan. However, an efficient plan must provide for minimum guaranteed wage based on hourly rate and extra remuneration for increased output.


In other words, an incentive plan must include in its purview the characteristics of time-based and output-based systems of wage payment. There are a large number of such plans that are applied in industrial concerns these days. However, before these differ­ent types of plans are discussed, the various requirements of a sound wage-incentive system must be noted.

Wage Incentive also called ‘Payment by results’, is anything that attracts the worker and motivates him to work. It determines their standard of living and their attitude towards the company. Incentive schemes provide payment based on either individual output or group output. The use of incentive assumes that people’s actions are related to their skills and ability to achieve important goals.

According to the National Commission on Labour, “Wage incentives are extra financial motivation. They are designed to stimulate human effort by rewarding the person, over and above the time rated remuneration for improvements in the present or targeted results.”

Psychologists have also defined incentive as a spurring force introduced as a means of accomplishing a goal or an outward stimulus, which activates a need or brings the motive to work.

According to Dale Yoder, “Incentive wages relate earnings to productivity and may use premiums, bonuses or a variety of rates to compensate for superior performance”.

Incentive Plans – Characteristics and Features of Sound Incentive Plans

The following characteristics of sound incentive plans are:

1. The incentive plan consist of both monetary and non­monetary schemes.

2. The incentive plan must be guaranteed minimum wages to all employees of the organisation.

3. The incentive plan should be properly communicated to all the employees of the organisation to encourage both individual and group performance.


4. The employee is expected to perform his task within the standard time because the standard time is fixed and set after making job analysis or time and motion study.

Characteristics of Incentive Plan:

(a) Incentives have direct linking to performance.

(b) Incentives induce the employee to move from existing level of performance to optimum achievable performance.

(c) It helps to improve level of technology and thus increases productivity.


(d) Incentives are measurable in monetary terms.

(e) The timing, accuracy and frequency of incentives or the very basis of successful incentive plans.

(f) Incentive plan encourages attendance and reduces absenteeism.

(g) Incentives vary from person to person, depending on their performance.


(h) Minimum wages are guaranteed to all workers.

Features of Incentive Plan:

An incentive plan has the following important features:

(a) An incentive plan may consist of both ‘monetary’ and ‘non-monetary’ elements. Mixed elements can provide the diversity needed to match the needs of individual employees.

(b) The timing, accuracy and frequency of incentives are the very basis of a successful incentive plan.

(c) The plan requires that it should be properly communicated to the employees to encourage individual performance, provide feedback and encourage redirection.

A manager takes different measures to motivate the employees to improve their performance. These measures are called incentives which can be financial or non-financial. Financial incentives refer to those incentives which are in direct monetary form or are measurable in monetary terms. They serve to motivate the employees for better performance.


Financial incentives are as follows:

(a) Profit sharing – It is often discussed that labour being the live factor in production, is entitled to share in the surplus earned by his firm. Employers often use this device to extort their loyalty and reduce the influence of trade unions. This provides group incentive to the workers for higher productivity and greater profitability.

(b) Co-partnership – Under this system, employees are offered company shares at a price lower than the market price. Thus, employees share the capital as well as profits. The workers get their usual wages, a share in the profits of the company and a share in the management of the company as well. When co-partnership operates with profit sharing, the employees are allowed to leave their bonus with the company as shares (bonus shares).

(c) Bonus – It is a reward that is offered on a one-time basis for high performance. A bonus may be in cash or in some other form, e.g., many sales organisations periodically offer prizes, such as trips, for their top sales people.

(d) Commission/Productivity linked wage incentives – Under this plan, a sales person be paid a guaranteed base salary plus a commission on sales. A commission plan has the advantage at relating rewards directly to performance.

(e) Pay and allowances – Salary is the top most priority/incentive for work to any employee in the organisation. If performance of an employee improves each year, then he may be rewarded by hike in salary and other allowances.


(f) Retirement benefits – Every employee wants to secure his life after retirement, therefore benefits like provident fund, pension, gratuity act as a motivator for employees.

(g) Perquisities – Employees feel motivated if the company provides benefits like housing, car allowance, etc.

Non-Financial Incentives:

Incentives which are not measurable in terms of money are known as non-financial incentives. They tend to satisfy the psychological, social and emotional needs of a person.

Some important non-financial incentives are:

(a) Status – It means formal position in the organisation. Higher status motivates people by satisfying their ego needs as lot of perquisites and authority is attached to it.


(b) Career advancement opportunity – Most of the employees want to grow in their careers. If sound promotion policy and training programmes are implemented, it will help them to achieve promotions.

(c) Organisational climate – If management takes special efforts in maintaining better organisational climate in the form of better working conditions, consideration towards employees etc. as compared to other companies, it acts as motivating factor to an employee for better performance.

(d) Job security – In India, due to widespread unemployment, job security is very important. It ensures regular income in future and relieves them of worry. However, it may make them complacent.

(e) Job enrichment/Assignment of challenging jobs – It involves basic changes in the content and level of responsibility of a job so as to provide greater challenge to the employees. It gives the employees more authority and more control over the job situation. He is allowed to plan, decide, schedule, inspect and evaluate his own work activities. Job enrichment results in high internal work motivation, high ‘growth and development’ satisfaction, high work effectiveness and high commitment.

(f) Employee participation – Managers should encourage participation of subordinates in organisational matters even if the ultimate decision-­making power vests with the managers.

(g) Employee empowerment – Employees will use their skills and talents positively if they are given more powers and autonomy. It will improve their performance in the organisation.


(h) Recognition – Praise/appreciation has its greatest impact when given and received as recognition which helps in improving attitudes of employees and motivates them to perform better. People with positive attitude towards work perform better than those with negative attitude.

Incentive Plans – 4 Main Objectives

The objectives of an incentive plan include one or more of the following:

1. To increase productivity of individual as well as group.

2. To reduce per unit cost and increase employee’s earnings.

3. To improve industrial and interpersonal relations,

4. To increase profit of the organisation.

Incentive Plans – Top 12 Prerequisites for Effective Incentive Plan

(a) There must be a commitment on the part of the top management to the incentive program.

(b) The incentive plan should reward employees in direct proportion to increased productivity or quality.

(c) The standards of performance and criteria for measurement should be fair, clear and aligned with firm’s strategy and objectives.

(d) There should be active participation of workers and union while installing incentive plan.

(e) A good incentive plan should be simple, clear and easy to operate. An average worker should know the linkage of pay for performance.

(f) There should be proper communication of details of the scheme to all the concerned persons.

(g) There should be a supportive environment from the employees for the scheme as any restriction can undermine the plan.

(h) The incentive plan should be in consistent with the corporate’ culture.

(i) An incentive wage plan must be fair and equitable to both employers and the employees. It should be motivating to employees and economical to the management.

(j) The time gap between actual performance and reward should be as small as possible.

(k) There should be an atmosphere of mutual trust and understanding between employer and employee.

(l) A minimum wage rate should be guaranteed to every worker irrespective of his performance. It increases sense of security among workers.

Incentive Plans – Requisites of a Sound Incentive Plan

A sound incentive plan should have the following essentials or requisites.

1. Simplicity – The incentive plan should be simple. It should be so simple that even an ordinary worker must be in a position to understand the contents of the scheme and must be able to calculate his earnings.

2. Plan should guarantee minimum wage – Incentive plan adopted must guarantee the minimum wage to all the workers irrespective of their working performance so as to ensure them a sense of security and confidence.

3. Worker’s Participation – Incentive plan should be accepted only after taking into confidence the workers and their union. Workers involvement ensures smooth flow of work.

4. Economical – The plan should be economical involving less clerical work. The benefit of the scheme should exceed the cost of operation of the scheme and plan should not involve elaborate records and complicated calculations.

5. Equitable – The plan should be fair, equitable and should cover all the employees. It must give equal opportunities to all workers to earn their wage incentives.

6. Clear understanding – The objectives of the scheme should be made known to all the employees so as to seek every employee’s co­operation.

7. Prompt payment – Wage incentives should be paid promptly whenever it has become due for payment. If the payment is delayed, workers may lose the faith in the scheme.

8. Conducive to workers health and safety – The plan should encourage the workers to earn adequate wages. The scheme should not over strain them which may tempt the workers to work hard to earn more which in the long run may affect on health of the workers.

9. Flexibility – The plan should give scope for making changes in accordance with the change in demand, market condition and government policy. Adjustability should be the glaring feature of sound incentive plan.

10. Fixation of Standard – For the purpose of payment of incentives, the standard fixed should be scientific and must be capable of reaching the standard by majority of workers without much strain.

11. Grievance Procedure – The plan should have effective grievance procedure to deal with complaints and dis-satisfaction of workers.

12. Performance Appraisal – There should be proper system of appraisal of the performance of employees so as to check the quality of output and to give guidance to the workers for improvement.

Incentive Plans – Specific Guidelines for Developing Effective Incentive Plans

Monetary incentive plans do motivate employees. There is considerable evidence that installation of such plans usually result in greater output per man-hour, lower unit cost and higher wages in comparison to the outcomes associated with the straight payment system.

But these plans will not be effective unless the careful planning is done and the plans are properly implemented. Several authors have suggested a list of requisites the monetary incentive plan should meet if the incentive method is to be attractive to the employees and at the same time administratively sound.

Some of the more important specific guidelines for developing effective incentive plans are:

1. Ensure that Efforts and Rewards are Directly Related:

The incentive plan should reward employees in direct proportion to their performance and increased productivity. Employee must also perceive that they can actually do the task required. The standard set has to be attainable and necessary tools, equipment, training etc. should be timely provided to the employees. Further the employees should have adequate control over the work process.

2. Reward must be Valuable to the Employees:

Increased earnings must have the potential to satisfy the existing needs of the worker if the worker is to be attracted to them. In other words, the monetary incentives offered must be relative to current or visible future needs.

3. Reward must be Clearly Identifiable:

Individuals or group’s contributions and efforts must be clearly identifiable, if rewards are to be provided to the workers for their specific performance.

4. Methods and Procedures should be Carefully Studied:

Since the effective incentives plans are generally based on the meticulous work methods study, the services of an industrial engineer or other methods expert should be obtained who may, through careful observation and measurement, define fair performance standards on which the plan is to be based.

5. Easy and Understandable:

The plan should be clearly understandable and easily calculated by the employees. The workers should easily understand the incentive plan so that they can easily calculate the personal cost and personal benefit for various levels of efforts put by them.

6. Effective Standards:

The effective standards must be set.

The standards on which the plan is to be based should be effective i.e. they should satisfy the following conditions:

(i) Standards are viewed fair by the subordinates.

(ii) They should be set high but reasonable.

(iii) They should be specific.

(iv) They should be complete in all respects.

7. Guaranteed Standards:

Standards must be guaranteed. The standard should be viewed as the contract with the employees. Once the plan is operational, great caution should be used before decreasing the size of the incentive in any way.

8. Hourly Base Rate:

An hourly base rate must be guaranteed. At least the plant employees should be guaranteed the base rate. Moreover, there should be one base rate for a job regardless of whether or not it is on incentive.

9. Clear Policies and Rules:

The clear policies and rules must be developed. Specific policies and rules concerning how employees will be paid and the rules for attaining the standard should be clear to both manager and the employees.

10. Consistent Rewards:

Rewards must be consistent with the government regulations. The incentives offered must govern regulations regarding compensation. The level of the reward and its frequency must meet minimum wage level.

11. Prompt Rewards:

Rewards must be granted promptly. The incentive plan should provide for rewards to follow quickly after the performance that justifies the reward.

12. Affordable Incentive Plan:

The plan must be within the financial and budgetary capacity of the organisation. It must be compatible with the available financial resources.

13. Additional Reinforcement:

The employees should be provided with additional reinforcement. The incentive plan can be more effective if high performance is encouraged and reinforced by management and subordinates. Reinforcement in terms of points accumulated or incentives given should be as frequent as possible, preferably daily or weekly.

14. Minimising Frictions:

The incentive plan should minimise the frictions between the workers. Ideally the plan should encourage workers to support one another rather than to be non- cooperative.

15. Employee Participation:

Employee participation may be useful in developing the incentive plan and increasing its effectiveness.

Incentive Plans – 12 Important Principles of Incentives Plans

A sound wage-incentive system can be installed by the management only when certain general prin­ciples or guidelines are followed. A sound incentive plan is one that achieves its purposes, which are usually to increase productivity, reduce costs, improve efficiency, increase employees’ earnings, and, at the same time, helps in maintaining and enhancing employee morale and employer-employee relations.

Some of the important principles of such a plan are outlined in the following:

Principle # 1. Worker Participation:

A wage-incentive system is installed primarily to benefit the persons who will in any way be affected by its installation. It, therefore, becomes pertinent on the part of the management to discuss the wage-incentive system with them, namely, supervisors, workers, and union representatives. This should give them an opportunity to suggest improvements, make them equally responsible for its effective execution, and also avoid misunderstanding on the part of these people about the management’s intentions.

Principle # 2. Simplicity:

The successful operation of a wage-incentive system is based upon the element of understandability and simplicity it embodies in itself. If the employee cannot understand how his/her pay is figured, the incentive is largely wasted. This problem is generally faced by the employees in cases when the plan involves a complex nature of mathematical exercise to arrive at a figure of pay.

Principle # 3. Scientific and Fair Standards:

Since a wage-incentive system is adopted for standardized jobs, techniques such as motion study and work simplification must be efficiently applied. These tech­niques suggest efficient methods for doing the job. Besides, the supervisors must also be trained to understand the tactics of workers. Sometimes, workers use old equipment when such studies are made, and therefore, make the standards of performance unfair.

Also, standards should not be based upon past performance. If this were done, those employees who had shown less than average performance in the past would be rewarded with easy-to achieve standards, whereas those who had previously given an honest day’s work would be penalized with a difficult-to-meet quota.

Principle # 4. Guaranteed Minimum Wage:

In installing a wage-incentive system, the use of job evaluation must be made so as to establish monetary base compensation for a job. This rate should be a guaranteed rate. Even when the method on the job is changed from time to output basis, the time rate is usually the guaranteed rate.

Principle # 5. Equitable:

Earnings above the standard (or task) should be in direct proportion to the increase in output above the standard. Variable relationship at different levels of output is confusing, and therefore, undesirable.

Principle # 6. Performance Record:

The primary advantage of installing a wage-incentive system is that it pro­vides incentive to produce more. To fulfill this incentive effect, there should be a clear-cut system for recording the output of each individual or group so that employees know what they have produced.

Principle # 7. Periodic Review of Standards:

The management must constantly and carefully follow-up and check to see whether employees are adhering to the specifications. Similarly, the management must observe whether the standards are being met or not. The reasons should be investigated and corrective steps taken to facilitate smooth functioning of the wage incentive system.

Principle # 8. Fairness:

The standards set and the rates announced should not be revised except where there are substantial changes affecting them. Fairness in this regard is essential to succeed with wage-incentive administration; otherwise, employees have reasons to suspect the managements good faith.

Principle # 9. Coverage:

An incentive plan should cover all employees whose jobs can be adapted to the incen­tive method of payment. Otherwise, dissatisfaction will result among those employees who have no opportunity to participate in the higher earnings possible under an incentive plan.

Principle # 10. Prompt Payment:

An effective wage-incentive system should provide for prompt payment of rewards for accomplishments after they occur; otherwise, positive reinforcement of the benefits to be obtained from high level of output is difficult to achieve.

Principle # 11. Ceiling on Earnings:

Generally speaking, no upper limit should be placed on incentive earnings. This is because more the worker produces, more he/she earns and along with him/her more the firm would earn. If a ceiling is put to the incentive earnings, it may also curtail the opportunity to achieve lower production costs per unit. However, a reasonable ceiling can be placed to prevent unnecessary over-exertion and to ensure quality.

Principle # 12. Grievance Mechanism:

An effective grievance mechanism must be available to handle dissat­isfaction and complaints on the part of employees. Grievances over incentives usually are con­cerned with charges by the employees that the rate or standard is too ‘tight’ (that is, too difficult to meet) or that there are too many holdups and delays due to machine breakdowns and interruptions in the supply of material.

Incentive Plans – 3 Important Types (With Advantages and Disadvantages)

I. Individual Incentives are offered to reward the effort and performance of individuals.

II. Group Incentive plans reward team members with incentive bonus when agreed targets are achieved.

III. Organisation-wide incentives reward people for the performance of the entire organisation.

In many organisations, managers are paid incentives based on individual performance and corporate results. The incentives are higher for senior manager and lower for executives.

Type # I. Individual Incentive Plans:

Individual incentive plans are widely used for pay for performance plans in the organisations. The employee has to produce more, earn monetary benefits and kept it to himself.

Types of individual incentive plans are given below:

1. Taylor’s Differential Piece Rate System – F.W. Taylor, the father of Scientific Management, came out with the system.

The objectives are:

(a) To provide incentives to workers to produce more

(b) To remove the fear of wage cut

In the system, there are two work rates, one is lower and the other is higher. Those who reach the standard output are given a higher piece rate. The lower rate is applicable to those workers whose output is below standard. The standard is determined by time and motion study.


Standard output 50 units per day. The piece rates will be Rs.1.50 and Rs.1.40 per unit. Those who produce 50 units or more will be paid @ Rs.1.50 per unit, while those producing less than 50 units will be paid Rs.1.40 per unit. The worker who produces 50 units will get Rs.75 per day and another worker who produces only 40 units per day will get Rs.56.00 per day.


a. The system penalise the slow worker and rewards an efficient worker.

b. It also provides an opportunity to the slow worker to increase production and earn higher income.

c. It is easy to understand the system.

d. There are number of minimum wage payment to employees.

e. It treats employees as machines and not as human beings.

f. Trade unions do not approve of such payment system.

2. Merrick’s Multiple Piece Rate System – The system is also based on the principle of low piece rate for slow worker and higher piece rate for higher production, but it offers three grade piece rates instead of two. As per the scheme, up to 83% of standard output, workers are paid at the ordinary piece rate, 83% to 100% at 110% of ordinary piece rate and above 100% at 120% of the ordinary piece rate.

3. Halsey Plan (Standard Hour Plan) – The plan developed by F.S. Halsey recognises individual productivity and pays incentive on the basis of the time saved. Standard time is fixed for each job. Time rate is guaranteed and the worker receives guaranteed wages irrespective of whether he completes the job in the time allowed. If the job is completed in less than the standard time, the workers are paid incentive of 33 1/3% of time saved in addition to his normal time wages.

The system guarantees minimum wages and provides incentives to efficient workmen. The worker may overlook quality of production to save more time and earn higher incentive. Further, fixation of standard is not easy.

4. Rowan Plan – The plan is similar to Halsey plan and only difference is in the method of determination of incentive. The time saved is expressed as a percentage of the time allowed and hourly rate of pay is increased by that percentage so that the total earnings of the worker are the total number of hours multiplied by the increased hourly wages.

5. Gantt Task and Bonus Plan – The plan combines time, piece and bonus systems. Fixed time rates are guaranteed. Standard time for task is fixed and both time wages as well as high rate per piece are determined. A worker who cannot finish the work within the standard time is paid on time basis. If the worker reaches the standard he will be paid time wage plan bonus as fixed percentage of normal wage rate. If the worker exceeds the standards, he is paid a higher piece rate.

The systems guarantee time wages to ordinary workers. It makes distinction between efficient and inefficient workers. Labour cost per unit comes down with increase in production.

6. Bordeaux Plan – Under the plan, every job is expressed in terms of standard minutes known as Bordeaux units. Upto 100% performance, i.e., upto standard units, a worker is paid time wages without incentive. If actual performance exceeds the standard performance in terms of standard minutes, then 75% of the wages of the time saved is paid to the worker as bonus and 25% is earned by foreman.

7. Haynes’ Manit Plan – The plan is similar to Bordeaux plan with the difference, i.e., the bonus is only 50% and out of the remaining 50%, 10% is paid to supervisors and 40% retained by employer.

8. Emerson’s Efficiency Plan – When the efficiency of the worker reaches 67%, he gets bonus at the given rate. The rate of bonus increases gradually from 67% to 100% efficiency. Above 100% efficiency, the bonus is 20% of the guaranteed wage.


A bonus is an incentive payment that is given to an employee beyond one’s normal standard wage. It is generally given at the end of the year and does not become part of base pay. It is extra payment to workers, over and above normal wage.

In India, the law relating to profit sharing is known as Payment of Bonus Act and sharing of profit is not linked to performance but to the level of profit made by the company. The Bonus Act defines an employee who is covered by it as one earning basic salary of 2500/- (effective April 1993) plus dearness allowance.

The minimum bonus to be paid has been increased to 8.33 per cent of salary. The Act applies to every factory or establishment in which 20 or more are employed in an accounting year. Even if there is a loss, a minimum bonus needs to be paid, treating the same as deficit to be carried forward and set off against profits in subsequent years.

Merit Pay:

Merit pay is a reward based on how well an employee has done the assigned job. The payment is based on individual employee’s performance. Rewarding the best performer with merit pay is a powerful motivation. Merit pay motivates the employees to work hard and achieve the assigned tasks. Merit pay may be in the form of lumpsum amount or as a percentage base pay.

Some of the problems in designing a merit pay scheme are:

1. It is difficult to measure performance objectively.

2. Employees, very often, fail to understand the connections between merit pay and performance.

3. Bias in assessing performance.

4. The superior may not be a competent evaluator.

Compensation Plan for Salespeople:

Compensation plan for salespeople consist of a straight salary plan, a straight commission plan or a combination of salary and commission plan.

1. Straight Salary Plan – It provides stable income and provides freedom from financial uncertainties. But there is no additional incentive for good performance. Example- Straight salary plan can be used in jobs where non-selling activities are more in the total times spent by the salesperson like sales and service engineers. Also in the case of salespersons, who do more of sales promotion activities in the field.

2. Straight Commission Plan – Here, payment is made as per sales productivity. The person receives no compensation if sales are not made. A high performing salesperson can earn very high commission based on business generated. Example- Selling insurance and financial products.

The disadvantages of the system are:

a. The person may be careless in sending reports on market situation, competition and performance of products.

b. The person may consider individual accounts as private property.

c. May shade prices to make sales.

d. Use high pressure tactics to sell.

e. May push easy-to-sell products.

f. May not focus on new products or difficult to sell products.

3. Salary plus Commission Plan – The plan provides security of stable income and additional income through commission for achieving sales targets. The plan is very useful for maintaining the morale of sales people. Therefore salary plus commission plan is being increasingly used by most of the companies in our country.

Sales Incentives:

The objectives of sales incentive are:

1. Motivation of salesperson to achieve sales targets.

2. Increase selling effort (meeting more number of prospects/customer/extended working hours, selling full range of products, conducting sales campaigns etc.).

3. Increase in sales, market share and profits.

Types of Sales Incentives:

1. Financial incentive – The salesperson is eligible for cash incentive for achievement of sales target/exceeding the sales target. The sales target may be for a quarter or for the whole year.

2. Non-financial incentives – While financial reward is a powerful motivation, money is not the sole motivator. Therefore, companies have come out with non-financial incentive such as recognition of outstanding performance, annual conferences in hill stations/foreign countries, membership in Achievers’ Club, members of the task force, personal letters of commendations, etc. to motivate sales people.

3. Combination of financial and non-financial incentives – Many companies dealing with pharma products, consumer goods and durables are increasingly using a combination of financial and non-financial incentive system to motivate sales people and achieve increase in sales, market share and profits.

Type # II. Group or Team-Based Incentive Plan:

The plan rewards all team members equally based an overall performance of the team members. Performance is evaluated using an objective standard. Payments to team members may be made in the form of cash bonus or non-cash rewards such as luxury goods or pleasure trips. Team based incentives can motivate the members to work as a team rather than brilliant individuals. It is relatively easy to measure team performance.

A few of the important team-based incentive plans are given below:

1. Production bonus – Under the plan, standard is fixed in terms of units or points. If the actual output exceeds the standard, the workers will receive bonus in proportion to the increase.

2. If the actual cost of production is lower than the standard cost, a bonus whose money value is a percentage of the cost reduction is paid. Here, the workers should be able to influence such cost reduction by working hard, saving in materials, fuels, lubricants, etc.

3. The Scanlon Plan developed by Joseph Scanlon is designed to involve the workers in making suggestions for reducing the cost of operations and sharing the gains of increased productivity. The plan has two components, i.e., financial incentive aimed at cutting cost and increasing efficiency and suggestion scheme. The suggestion received from employees is screened and evaluated by a committee. If the suggestion is implemented and successful, the employees usually share 75% of the savings and the balance is set aside for the months in which labour costs exceed standard cost.

4. Reduction in labour cost – The main objective is to bring about cost reduction by supervisors and workers. Bonus is paid upon reduction in labour cost alone.

Type # III. Organisation-Wide Incentive Plan:

The employees are rewarded on the basis of the success of the organisation over a specified time period. Those plans develop a sense of belongingness, co-operation, understanding and teamwork among employees. There are three types of incentive plans, i.e., profit sharing, gain sharing and employee stock ownership scheme.

1. Profit Sharing:

Profit sharing involves the determination of organisation’s profit at the end of the financial year and the distribution of a percentage of the profits to employees, qualified to share the earnings. To enable the workers to participate in profit sharing, they are required to work a certain number of years and develop some seniority. Profit sharing is an additional payment over and above regular salary payment. Professional management consider workers as partners in the production process and profit is an outcome of the efforts of employees and therefore it could be shared between employer and employees.

According to ILO, “Profit sharing is a method of industrial remuneration under which an employer undertakes to pay to his employees, a share in the net profit of the enterprise in addition to their regular wages”.

According to Henry Seager, “Profit sharing is an arrangement freely entered into by which the employee receives a share fixed in advance of the profits”.

Features of Profit Sharing:

i. The proportion of the profits to be distributed is determined in advance.

ii. The amount to be distributed depends upon the profits earned by the enterprise and is computed on the basis of agreed formula.

iii. The employee should have some qualifications such as length of service to become eligible for the financial benefit.

iv. Profit sharing is reward for collective efforts of employees and is over and above wages.

v. That are paid regularly.

vi. The extra payment is generally paid in cash. However, it can be in kind such as equity shares,

vii. Profit sharing may be on industry basis, locality, unit, department or individual basis also.

Objectives of Profit Sharing:

i. To develop employer-employee relations and employee morale.

ii. To improve efficiency of operations by reducing costs and increasing output.

iii. To eliminate waste in the use of materials and equipments.

iv. To supplement the regular income of the workers.

v. To provide group incentive for higher output.

vi. To provide for employee security in the case of death, retirement or physical disability.

Limitations of Profit Sharing:

i. The payment is made only when the profit exceeds a particular limit and therefore the scheme does not guarantee payment to workers.

ii. During period of depression, it may not be possible for its management to make payment to worker.

iii. It gives equal benefit to all workers and there is no distinction between good and bad performance.

iv. Trade unions and workers feel that bonus payment is better compared to profit sharing.

2. Gain Sharing:

Gain Sharing aims at increasing productivity or decreasing labour cost and sharing the gains with employees. When productivity exceeds the baseline, an agreed savings is shared with employees. Gain sharing plan increases co-operation and understanding among workers and teams and they work for achievement of common goals. Example- Scanlon plan aims at cost cutting and increasing efficiency of operations and sharing the gains with employees. It also includes suggestion scheme for cost-cutting.

3. Employee Stock Plans:

Employee Stock Plan is one of the important pay for performance devices to attract and retain promising employees. It commands employee loyalty. Stock options are tremendous motivators because they directly link performance to the marketplace. The principle of stock option is to let employee add value to the company and benefit from it.

It is a form of compensation which enables the employees to purchase shares of their company and gain from possible rises. Under the scheme, employees who are eligible for receiving the award are they offered specified number of shares. They gain when the share prices go up. Stock options create wealth for employees without involving large cash flow to the company.

Types of Employee Stock Plans:

i. Employee stock option scheme – The Company grants an option to its employees to acquire shares at a future date. The options are offered at a predetermined price.

ii. Employee stock purchase plan is followed in listed companies – The employees are given the right to acquire share of the company immediately after they earn them based on length of service/performance, normally at a price lower than market price. Shares issued will be subject to lock-in period during which the employee cannot sell them.

iii. Restricted stock plan – The employee need not put in money. However, shares are subjected to some restrictions. The employee has to continue to work in the company for a specific period, otherwise shares may be forfeited.

iv. Phantom stock is a special type of stock option scheme that protects the holder against any depreciation in the value of stocks.

Advantages of Stock Plan:

i. Employee remains loyal and committed to the company.

ii. Develops long-term relations between employer and employee. The employees feel that they are owners of the company and not just paid servants.

iii. Develops teamwork among employees.

iv. Reduces employee turnover.

v. The companies are able to attract and retain employees.

vi. The scheme links compensation to performance.


i. The scheme can be implemented only by profit-making companies.

ii. Falling share prices lead to losses.

iii. Employees are forced to continue employment with the company for availing the scheme.

Advantages and Limitations of Incentive Plans:


1. A well-designed incentive plan generally leads to increased output, lowers the cost of production and brings a higher income to employees.

2. Labour and total costs per unit of output can be estimated more accurately in advance goods.

3. To attract and retain employees and reduce turnover.

4. Less direct supervision is needed to keep output at a reasonable level.

5. Provides additional income, over and above wages, to employees.

6. Promotes industrial harmony and stabilisation of workforce.


Many incentive plans aimed at increasing the motivation of employees often fail to have the desired impact due to the following reasons:

1. Very often, management keeps unfair standards and they are a great hindrance in the way of motivating employees.

2. There is fear in the mind of employees that the management will keep on increasing the targets or rates will be reduced if they earn too much.

3. Difficult to understand incentive plan. If the employees cannot understand how performance will lead to rewards, they may not put efforts to achieve targets.

4. The incentive plan differentiates between good and poor performances. It is harsh on labour average worker.

5. Workers are affected if the production or sale is affected due to certain reasons beyond their control.

6. Trade union may oppose such plan.

Requirements of an Effective Incentive Plan:

1. The incentive plan should reward employee in direct proportion to their performance and increased productivity.

2. The monetary earnings must have the potential to satisfy the existing needs of the employees.

3. The policies and procedures for granting incentives should be clear to the employees.

4. The standard should be fair, specific and complete and the focus should be on quantity as well as quality of output.

5. The plant employees should be guaranteed base rate.

6. The reward must be given promptly without delay.

7. The incentive plan must be within the financial capacity of the firm.

8. The plan must motivate workers and encourage teamwork.

9. The incentive plan must be beneficial to the organisation by increasing output and profits.

10. The incentive plan should be in line with government regulations.

Incentive Plans – Important Incentive Plans for Managers

There are a multitude of incentive pay schemes for managers or executives. Many of such schemes are designed in relation to income tax regulations as individual tax rates are higher. Most of the companies have introduced ‘perquisites’ or ‘perks’ to retain the professional executives.

These include free transport, company aircraft, medical insurance, rent free accommodation, home security, children education allowance, club membership, professional body membership, etc. These are also called fringe benefits.

The list of fringe benefits has increased manifold over the years and the expenditure on such programs has in many cases equaled or exceeded the base wage compensation to the employees. That is why, the term ‘fringe’ is deemed no longer appropriate and it is replaced by terms such as ’employee benefits’ and ’employee services’.

In fact, many companies have been compensating their executives through fringe benefits to enable them to save income tax. That is why, the Government imposed fringe benefit tax (FBT) on the companies.

Some of the important incentive plans for managers include the following:

(i) Cash bonus based on profits or individual performance.

(ii) Commission based on company’s profitability or profit sharing.

(iii) Employee stock option plan where the executive is given the option to purchase company shares at a specified rate or at a price below the market price.

Incentive Plans – Benefits: To Workers and Producers

Benefits to Workers:

The following are the advantages of incentive plans to the workers:

(a) Increases in the Wages of Workers – These systems increase the total wages of workers because they get besides prescribed wages, the premium or bonus also. Different schemes have different premium rates of payment. Increase in total earnings is eventually incremental in improving their efficiency.

(b) Improvement in Work Capacity – To get premium, standard work is to be finished in prescribed time or before time. One whose work is less will not get premium. Hence every worker works more, one who is unable to do his prescribed work tries to reach die standard work level necessarily so that he may get premium.

(c) Improvement in Living Standard – This system increases the wage of the worker on one side, while on the other hand producer has to pay less or gets more work proportionately. This reduces the cost per unit, consumers would get goods cheaper and their status increases.

Benefits to Producers:

Incentive schemes give the following benefits to producers also:

(a) Increase in Production and Less Production Cost – Workers work more to earn more bonuses. Hence production increases rapidly. Besides this, production cost per unit lessens because for more production, a worker gets a prescribed premium of wages, not the full amount

(b) Minimum Supervision – Workers work more themselves for their increasing wages. His aim is not to waste time. Hence more supervision is not needed. After a proper status, it can be decreased.

(c) Good Labour Relations – Workers and the employers both have common interest. Both wish to have saving in time and increase in production so labour disputes are minimum.

(d) Improvement in Organisation – Wages according to quantum of work and extra motivation (premium) improves the organisation. Misuse of time and other factors diminishes.

(e) Standardisation – All premium schemes are based on standardisation. Hence time and job standards are fixed up by time and motion studies. Determined basis is selected and evaluation of the work of labour is done. Standardisation improves the method of production also.

Other Advantages:

(a) Encouragement to Cooperation – Group premium plans promote mutual cooperation among workers and management. They both become interested in increasing the surplus of the enterprise which leads the enterprise to its maximum benefits.

(b) Other Advantages – Premium plans bring reduction in indirect costs. They improve both the quality and quantity of work. The wage policies become more sound and scientific. These all benefits of incentive plans justify the introduction of premium plans in enterprises in addition to job evaluation.

Incentive Plans – 6 Major Limitations (With Reasons for Failure)

The following are the limitations:

(a) Performance pay cannot replace good management.

(b) Psychologist says that people put their efforts to achieve reward but it detroit’s quality of product when produced in excess.

(c) Workers may disregard safety measures in order to produce more.

(d) This scheme also increases the feeling of jealousy and conflict among the employees, if pay for performance is strictly followed.

(e) Workers may also lead to unethical and illegal behaviour for task completion.

(f) Incentive schemes are sometimes too complex to be understood and to implement.

Reasons for Failure of Incentive Plans:

As per view of Hackman, J. Richard, and J. Zyod Suttle the following principle reasons for failure of incentive plans are:

1. Unfair standards are a great hindrance in the way of motivating employees.

2. Fear of rate cut

3. Group restrictions, Peer pressure is a double edged sword when it comes to incentive plans

4. Employees do not understand the plan

5. Lack of require tools, training and equipments, and

6. Inequitable wage structure and inter-group or intra-group conflicts.