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Sometimes, for the sake of the business’s wellbeing, a sales organization must implement strategies that are at odds with their reps’ best interests. Is that true of the commission cap?
In this article, we’ll explore the why, when, and how of commission caps and explain why so few modern sales organizations embrace this compensation strategy.
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What is a commission cap?
A commission cap is an element of a sales compensation plan in which an organization places a limit on the amount of commission a sales rep can earn during any given pay period.
Types of capped commission plans with examples
There are a couple of different methods companies use to place a cap on sales commission. In the most common example, a company limits the dollar amount of commission a sales rep can earn in a given pay period. For example, if a cap is set at $100,000 for the quarter, once a rep has earned $100,000 in commission, they’ll receive 0% commission on any subsequent deals that quarter.
A company might alternatively create a cap via a tiered commission structure. For example, a sales rep can earn 5% commission until they exceed $100,000 in sales, at which point their rate increases to 7% for all subsequent deals that year; at $200,000 in sales, their rate increases to 10%. But if a company has a 10% commission cap, then the rep’s rate won’t increase any further once they’ve exceeded $200,000 in sales.
An organization might also cap reps’ commission at the deal level. So instead of placing a limit on the total amount of commission a rep can earn during any given pay period, a limit is placed on the amount of commission a rep can earn on a single deal. For example, imagine there’s a $75,000 cap in place for a rep who earns 7.5% on closed deals. If the rep closes a $1 million dollar deal, they’ll earn $75,000 in commission. If that same rep later closes a $2 million dollar deal, they will still only earn $75,000 in commission.
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Why do companies implement a cap?
While commission caps are rare among modern sales organizations, some companies still do use them, typically for one of the following reasons.
They’re dealing with temporary financial instability
Whether the market is experiencing a downturn or the company itself is struggling through a financial rough patch, a company might implement a cap as a means to keep costs low.
They want to establish consistent spending throughout the year
An organization might want to establish consistency from quarter to quarter so they can forecast spending and plan budgets more effectively. They could implement a cap on reps’ commissions to avoid spending an unexpectedly high amount on commission in one pay period compared to another.
They’re wary of overpaying for a big deal
When a sales rep closes a massive deal, they likely earn a massive commission payout. While they’re also generating a ton of money for their company, some businesses fear that paying a rep too much for a single deal might cause them to work less hard on bringing in additional deals.
The drawbacks of implementing a cap on commission
On the surface, these payout caps might seem like a logical method for an organization to reduce costs and avoid big swings in how much they pay out to reps. But, consider the following drawbacks and you’ll understand why implementing a commission cap often creates more problems than it solves.
It demotivates sales reps
A cap on commission tells sales reps there’s a limit on how much they can earn, which can demotivate them to go above and beyond to bring in the most revenue possible. As a rep approaches their commission cap, they’ll understandably put less effort into building out pipeline and closing deals.
Some companies establish an extremely high commission cap, thinking: “Reps will rarely or never hit that limit, but this protects us from overspending just in case they do.” But even a seemingly unreachable cap can have an adverse psychological effect on sales reps. Knowing there’s a ceiling on one’s earning potential can demotivate, no matter how high that ceiling is.
It results in less overall revenue
Businesses implement caps with the hope of saving money, but this often produces the opposite result. A cap can reduce not only a company’s commission expenses, but also the total amount of revenue being generated, once sales reps have no incentive to close more deals.
It incentivizes poor sales behaviors
Some sales reps react to a cap on commission by simply becoming less productive. Others look for loopholes around the commission gap, the most popular method being to push a deal to the next pay period so they’ll receive commission for it. These tactics might negatively impact customer experience, as the sales rep is literally making the customer wait.
It puts companies at risk for high employee turnover
As stated above, most modern sales organizations don’t cap their reps’ commissions. So if your company caps commission to cut costs, your reps will know there are plenty of other employers out there who will offer them uncapped commission. Plus, a sales rep who reaches a commission cap is likely a top performer – the exact type of sales employee you don’t want to lose to a competitor.
It makes it harder to hire new talent
Whether an organization wants to expand their team or needs to replace reps who are leaving, capping commission means it will face an uphill battle in the hiring market. High-quality candidates will likely have a number of options when searching for a new role. If they have a choice, they’ll almost certainly choose an employer who doesn’t limit their earnings potential.
Think carefully before you cap
Capped commissions come with disadvantages that can hurt an organization in the long run. However, companies may benefit from a commission cap if they’re still ironing out their commission strategy or need to navigate a temporary period of financial instability. Weigh the pros and cons carefully before capping your commissions — and re-evaluate as needed to avoid prolonged caps.
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