Cost of Salaries and Benefits

By Jim Fox and Bruce Lawson, Fox Lawson & Associates, A Division of Gallagher Benefit Services, Inc.


Question: Public employers are getting hammered in the media regarding the cost of public employee salaries and benefits. While we can debate whether public employees earn more or less than private sector employees, do you have any suggestions as to how we might go about controlling or limiting our payroll and benefits costs?

CompDoctorTM: Do we have ideas? Well of course we do! Not that you will like some of them, but we think they are effective and at least worth considering.

Let’s start with your overall compensation philosophy and related strategies. Historically, it was fairly common for employers to simply state that the purpose of their compensation program was to facilitate recruitment, retention and motivation of qualified (or well qualified or some other descriptor) employees. With this type of generic statement, the message was “we want and need to get people in the door, we want to keep them and, if at all possible, we might be able to motivate them.” As a result, we built traditional compensation models that reflected seat time (excuse us—longevity) rather than other factors such as performance, competency or skills. Pay structures simply were designed to give salary increases to people based on length of service in a job classification on the basis that they needed to keep them, so they had to give raises.

Our classifications systems are built to support this idea. We created job series of (for example) Accountant I, Accountant II, Accountant III, etc. The major difference between these classifications was the length of time the incumbent was in the lower level classification. It wasn’t necessarily based on competency or capability (or in some cases, even the level of difficulty of the work), but rather on the experience in the job. Thus, our classification systems and compensation systems complemented each other.

Based on the above, the first step involves rethinking what it is you want your compensation program to do for you. We have several clients that have changed their philosophy and, while recruitment is still the primary goal, the second goal is motivation. The thought process is that retention of motivated employees is more important than just keeping everyone on the payroll. Other issues that will need to be addressed relate to how the pay plan is to be administered and what will be the basis for pay increases, if not longevity.

A second way that you can consider controlling costs is by capping salary, benefits, discretionary benefits and other items of total compensation as a percentage of revenues, operating income or revenue.

In order to provide fiscal accountability, total compensation expenses can be managed, so as not to exceed X percent of total operating revenues for the organization. Operating revenues can be established as part of the annual budgeting process and the percentage could be based on an average of the percentage spent by the organization for the previous five-year period (or some other defined period). This will provide assurance to your stakeholders that labor costs will never exceed a fixed percentage of your costs.

A third technique that we have used for many years also relates to the budget, and involves how you budget for each position. We know that many organizations budget each position on a line item basis, and the amount for each position is based on the current actual salary for each position plus any anticipated step increases that may be applicable during the year ahead. This is a labor-intensive effort to say the least. An alternative approach would be to budget each position at the defined market rate for the job period. If your pay philosophy is to pay, on average, the prevailing market rate (e.g. the 50th percentile of the market) for the job, budgeting at that number will provide the resources necessary to fund the pay plan at market rates. Any department that exceeded the budgeted allocation for salaries would then be subject to repercussions. Of course, that means that someone (be it the city manager, the county manager, the board or council) would actually have to hold department managers accountable, but that is the topic of a whole other column.

Obviously, with increased scrutiny of personnel costs in relation to comparable private sector personnel costs, we will likely need to think differently about what personnel costs we are comparing. It is easy enough to compare direct salaries of comparable jobs between the private and public sectors, and it is not too difficult to compare the employee and employer current costs of health and welfare benefits. But the recent debate has shifted to the hidden costs of pensions and the cost to cities, counties and states for the unfunded liabilities of defined benefit plans. That cost, which is not normally considered in labor cost comparisons, probably cannot be ignored for long. The cost of unfunded liabilities, post retirement health care and even banked sick days, raises the question about the proper mix of total labor costs. In other words, the argument goes that public employers should not have to pay salaries at market rates because the future value of the defined benefit plan, or the value of post retirement health care costs (not normally available to private sector employees) makes up for the lower current costs of salaries and benefits. And this does not even consider the very hidden value of apparent better job stability of public employment.

The argument has clearly shifted from current cost of salaries to total compensation value provided to public employees versus private sector employees. While there may be no clear answer to how all elements of total compensation is measured and compared, as professionals in human resources, we need to begin getting a handle on these issues, regardless of how slippery they may be. This is especially true as we prepare for the new normal in classification and compensation management in these economic times.

Hopefully, our comments will provide you with information that will be useful to you as you attempt to control your salary and benefit costs.


The Comp Doctor™ is the team of Jim Fox and Bruce Lawson of Fox Lawson & Associates, a Division of Gallagher Benefit Services, Inc., a compensation, benefits and human resources consulting firm that specializes in assisting governments in fixing their compensation, benefits and classification systems. You may find them on the Web at www.foxlawson.com. If you have a question, you would like to have them answer, please write to them at james_fox@foxlawson.com or bruce_lawson@foxlawson.com. They will try to include it in the next issue of Comp Doctor™.