6 Key Elements of a Commission Plan Document

1. Sales Commission Agreement must be in Writing

The idea of a sales commission plan sounds simple enough—until you run into those inevitable gray areas… A sales rep is manipulating discount terms in order to book higher sales figures. Or maybe one of his closed accounts requires a refund. Does your plan include language to address these scenarios?

Writing a comprehensive sales commission agreement should be a top priority for any organization that doesn’t already have one and must be updated each year for any changes or clarifications. For all employees, you must provide a written description of rates of pay, manner of pay, and advanced notice of any changes. If there’s any contract ambiguity, a court will often decide in favor of the employee and in some states, means the company could owe up to three times the commission amount in damages.

You can download a sample sales commission plans online, but I highly recommend professional support on two fronts. First, design the right plan—with help from a firm that specializes in sales compensation strategy. Second, work with a legal team that has experience in the state(s) where you do business. All documentation should be reviewed to make sure it’s legally compliant and aligned with your strategic goals. Include terminology that you reserve the right to change the plan prior to the end date in case you made a mistake in your planning assumptions.

2. The sales rep’s goals must align with the company’s

I find that some sales compensation plan documents actually originate from a different company. That other

company is not the same as yours and has different goals and strategies. The commission plan document is how you translate your strategic sales vision to the sales rep. This is done through quotas and earnings with the sales rep earning the most incentive by attaining the company’s top priority. Too often a company will have many measures and payout formulas which dilutes the importance of the company’s top priority. Setting clear targets or quota and paying appropriately will motivate your reps to achieve them.

3. Define the Terms of Crediting and Payment

Does your commission plan document pass the 5% of what test? That is your plan document must clearly define a.) when a sale is credited for commissions to be earned, and b.) when those commission will be paid. In terms of sales crediting, common options include:

  • How do you determine who gets credit? What is the value of the credit?

  • When is credit given:

  • When the order is booked

  • When it is shipped

  • When it is delivered or installed

  • When payment is received

  • What happens if there is a change in the credited amount, a cancellation, a return?

If you don’t explicitly outline earning terms, an unhappy sales rep may have grounds for a lawsuit. The default status for commission earnings, as defined by most courts, is usually when the order is booked. Without existing documentation to support your position, courts typically disregard holding commission payments until the customer has received the shipment or made payment.

Be sure you also address crediting terms in your plan. (I find the best commission crediting policy, the one that is most motivating for your sales reps, is to reward reps for the events they can control. That said, commission should be earned and credited at booking.)

To avoid losing money, document a recovery policy that says commission is payable on a net sale amount, and subject to returns, cancellation and non-payment. Ideally, the recovery policy should apply to future commissions, so employees never have to give money back. This kind of provision also incentivizes sales reps to focus on quality customers (companies with good credit and a solid reputation).

Remember to include any specifics that factor into your commission formulas—for example, do you intend to back out discounts, taxes, or freight costs before establishing the figure on which commission will be calculated?

4. Define Sales Commission Earnings

Each of your sales reps should clearly understand how you will define commission earnings—especially if you’re using a more motivating commission plan (as opposed to a simple, flat-rate plan). With a ramped or tiered commission plan, different rates may apply at different levels of sales attainment. You should only have one ramped rate formula in your commission plan and that is reserved for the most important strategic measure in your plan. Your agreement should explain any rate tables used to calculate variable rates, and outline eligibility for any attainment bonuses (e.g. quarterly bonuses or spiffs).

When wage complaints are filed, state departments of labor first look to see how much transparency the employer provided. Having a plan that that the reps can easily understand and project commissions may protect you from liability. Providing a sales rep with a commission statement that explains exactly how their paid commissions were calculated is critical.

5. Outline Terms of Employee Status Changes Leave nothing to the imagination. What will happen when an employee…

  • Separates from the company?

  • Goes on leave?

  • Transitions into a new sales role or a non-sales, salaried role?

Are commissions owed based on any sales earned before the status change?

Questions like these are among the most common reasons why sales commission disputes go to court. And if you have a long sales cycle, there’s a good-sized window for status changes to occur between booking and payment. Clearly communicate your status change policies to anyone in your organization who is paid a commission or a bonus.

6. Update Your Commission Plan Every Year

Sales commission agreements can quickly become outdated. During the year you may need to add an addendum to your plan document if you receive the same questions a few time from different reps. Many companies do not update their plans each year—potentially failing to address evolving job roles, changing employment laws, and other variables.

If you’re overdue, start reviewing your plan today. Partner with compensation plan experts to be sure you’re on the right track. Always have your legal team review any proposed changes. Look for a firm that specializes in employment, corporation, and business law services.