The Pros and Cons of Producer Compensation Methods
One of the realities of the agency business is that there is no single accepted formula for remunerating producers. Instead, there are four and a half. They include straight salary, straight commission, draw against commission, and salary plus commission. The “half” is every other compensation scheme that’s not one of the big four. Since there is no standard blueprint, management must develop its own internal compensation scenario. Ideally, it’s one that’s affordable, yet attracts and retains capable people. Its structure should equally suit inexperienced producers and veterans, albeit at different earning levels.
The bottom line solution lies in evaluating the pros and cons of the four primary options plus running comparative profit and loss projections for each, over multiple years. Don’t be predisposed towards one method without at least considering the other three. And always evaluate the numbers from the employee and agency points-of-view. What works for one party isn’t necessarily viable for the other. This column provides a brief overview of each alternative, with special attention to new hires. Running the actual numbers is up to you.
Straight Salary
Pro. Both parties know, up front, what the producer is paid. The employee is assured of a level check for each pay period for the term of his employment agreement. This amount is usually adjusted annually, based on the prior year’s production and expected revenues over the next 12 months.
Con. The relationship of compensation-to-production is measured only once a year. The other three options [below] include commission and therefore establish this key relationship every day. It is a pay method that’s best suited for seasoned pros who have an established production record.
Straight Commission
Pro. There is unlimited income potential for the producer. Management only has to pay commissions for sales that are actually made. Commission percentages are known, upfront, for personal, commercial, and other policy sales for both new business and renewals.
Con. Few new job candidates are financially able to accept employment on this basis. It takes time to build up to a livable wage, particularly when the new producer starts out with zero business. Plus, the agency is still responsible for many sales-related and operating expenses that are incurred, even if the agent never makes a sale. These include education, marketing support, staff support, travel and entertainment, telephone, postage, printing, additional computer costs, various membership dues, extra errors and omissions premiums, etc. It’s another compensation method that’s better suited to veterans.
Draw Against Commission
Pro. A new producer collects a monthly check while enjoying unlimited income potential. The agency makes regular payments to the producer — not as salary — but as a draw. This draw is a repayable advance against future commission earnings. New and renewal commission levels paid to the agent are pre-established for all of the lines he sells. Periodically (usually annually), the producer’s actual earned commissions are compared against the draw amounts that were paid. When the commissions earned exceed the draw, the agency owes the producer the difference. However, the producer owes the agency when the draw exceeds the commissions.
Con. A new agent may actually owe money that he cannot pay at the end of a given year. The agency may also be taking on more risk than it expects, as there may be difficulty in collecting what’s owed, particularly if the agent was terminated or resigned before his draw was fully validated.
Salary Plus Commission
Pro. Like the draw against commission option [above], the producer enjoys a flat monthly income plus the ability to earn extra pay based on production. But here, the paycheck is his to keep, regardless of the number of sales that he has actually made. The agency enjoys a lesser risk by paying the producer a lower fixed amount than under straight salary, while allowing the agent to make up or exceed the difference through his sales efforts. Commission levels must be set for all policy lines sold, including new business and renewal business.
Con. Some agency managers establish excessive base salaries and commission levels because they confuse this approach with the straight salary and straight commission methods. This common error, caused by failing to run extended projections, can make this method potentially unprofitable for the agency.
Hybrid Approaches
The big four formulas dominate P/C producer compensation. However, there are also crossbreeds. For instance, some agencies like to offer new hires straight salary for the first year or two and then shift them over to salary plus commission or even straight commission later on. Creativity is great, but consistency is even more important. Producers need to know the amount of income that they can expect in exchange for certain levels of production. And that’s a very reasonable request from anyone in sales.