The payment of commission as remuneration for services rendered or products sold is a common way to reward sales people. Payments often are calculated on the basis of a percentage of the goods sold, a way for firms to solve the principal–agent problem by attempting to realign employees' interests with those of the firm. Sales personnel are thus paid, in part or entirely, on the basis of products or services successfully sold rather than being paid by the hour, by attempted sales, or by any other measure.
Although many types of commission systems exist, a common form is known as on-target earnings in which commission rates are based on the achievement of specific targets that have been agreed upon between management and the salesperson. Commissions are intended to create a strong incentive for employees to invest maximum effort into their work.
One of the most common means of attempting to align principal and agent interests is to design a contract with incentives that track agent performance. The principal–agent theory provides an explanation for the dissimilarities across the marketing firms in the types of compensation plans used by them, such as fixed salary, straight commission or a combination of both.
Often, a firm embracing a commission structure may not involve employees, but may solely establish themselves using independent contractors. An example in the US could be a real estate agent.
Commission is not offered at most entities that receive donations or gifts. This is likely against the will of most donors. However, it is commonly argued that this would increase motivation and efficiency of those requesting donations.
Industries where commission is commonly paid include car sales, property sales, insurance broking, and many other sales jobs. In the United States, a real estate broker who successfully sells property might collect a commission of 6% of the sale price, but one who makes no sales will collect no compensation whatsoever.
In 2011, California Governor Jerry Brown signed into law AB 1396 amending the California Labor Code requiring all employers who pay commissions to enter into written contracts with their employees regarding how commissions will be earned, computed and paid. The new law, effective on 1 January 2013, further states that commission excludes "short-term productivity bonuses such as those paid to retail clerks" and "bonus and profit-sharing plans, unless there has been an offer by the employer to pay a fixed percentage of sales or profits as compensation for work to be performed."
In the financial services industry in the UK, rules set out in the Retail Distribution Review of December 31, 2012 mean that an Independent Financial Adviser can not take commission in the management of their client's wealth. As set out by the Financial Conduct Authority, advisers must now agree an upfront charging structure in advance to a client before advice is given.
For customers who do not want to pay a separate upfront fee, there is an option to have payment of the charges deducted from the investment held by the product provider. These new measures have been applauded by many, particularly in the financial services industry. This has led to changes in the direct to consumer, non-advised sector, with some companies now charging upfront fees to customers for financial products rather than taking commission on policies and investments.
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- Madhani, P. M. (2009). "Sales Employees Compensation: An Optimal Balance Between Fixed and Variable Pay". Compensation & Benefits Review. 41 (4): 44–51.
- Lerner, Michele (15 April 2016). "Commissions of 6 percent for home sales once were the norm. That's changing". Washington Post. Retrieved 3 April 2018.
- "Labor & Employment Law: Looking Forward to 2012" (PDF). Buchalter Nemer. December 2011. Retrieved 2013-08-13.
- "Retail Distribution Review, Financial Services Authority, 17/02/09. Accessed 13/01/15". fsa.gov.uk.
- "Retail Distribution Review: Adviser Charging, Financial Conduct Authority, 12/09/14. Accessed 13/01/15". fca.org.uk.
- "Compare Life Insurance: Commission-Free versus Commission-Based, 12/05/14. Accessed 13/01/15".