Sales Compensation: Should You Pay a Salary or a Draw?
Sales compensation plans that attract and motivate quality salespeople usually include some type of "income floor". This is a guaranteed minimum amount of compensation that the salesperson earns within a specified time period.
An income floor is usually provided in one of three ways: via a Salary, a Recoverable Draw, or a Non-Recoverable Draw. Here are definitions for these three terms:
- Salary: This is a fixed amount of money that is paid within a specified time period. Any commissions earned (if applicable) are paid in addition to the salary.
- Recoverable Draw: This is also a fixed amount of money that is paid within a specified time period. Think of it as commissions paid in advance. If the actual commissions earned during the time period exceed the draw amount, the salesperson is paid the difference at some later date. However, if the actual commissions earned during the time period do not equal or exceed the draw amount, the salesperson owes the company the difference. Any commissions in excess of draw that are earned in future time periods will first be applied to liquidate any negative balance in the salesperson's draw account before commission payments are made to the salesperson.
- Non-Recoverable Draw: This is also a fixed amount of money that is paid within a specified time period. Just like with a Recoverable Draw, if the actual commissions earned during a time period exceed the draw amount, the salesperson is paid the difference. However, if the actual commissions earned during the time period do not equal or exceed the draw amount, the salesperson does NOT owe the company the difference. The slate is "wiped clean" at the beginning of the next time period.
The following two tables demonstrate the difference between a Recoverable Draw and a Non-Recoverable Draw.
Recoverable Draw Example
| Time Period | Draw Paid | Actual Commissions | Owed to Company | Commission Paid | Total Earnings |
| Month 1 | $3,000 | $4,000 | $0 | $1,000 | $4,000 |
| Month 2 | $3,000 | $2,000 | $1,000 | $0 | $3,000 |
| Month 3 | $3,000 | $5,000 | ($1,000) | $1,000 | $4,000 |
| Totals | $9,000 | $11,000 | $0 | $2,000 | $11,000 |
Non-Recoverable Draw Example
| Time Period | Draw Paid | Actual Commissions | Owed to Company | Commission Paid | Total Earnings |
| Month 1 | $3,000 | $4,000 | $0 | $1,000 | $4,000 |
| Month 2 | $3,000 | $2,000 | $0 | $0 | $3,000 |
| Month 3 | $3,000 | $5,000 | $0 | $2,000 | $5,000 |
| Totals | $9,000 | $11,000 | $0 | $3,000 | $12,000 |
What is the difference between a Non-Recoverable Draw and a Salary?
The primary difference is a non-recoverable draw can eliminate a potential fairness concern that can arise when a company uses a salary + commission compensation plan. The best way to explain this fairness concern is by reviewing an example.
Sample Company has an annual revenue target for each salesperson of $1,000,000. Management is willing to pay 10% of this revenue ($100,000) as total annual salesperson compensation. Annual base salaries range from $40,000 to $60,000 based upon salesperson experience and need. The balance of each salesperson's compensation is commission.
If a salesperson receives a base salary of $60,000, their target annual commission compensation is $40,000. Assume that commissions are calculated by applying a multiplier against each dollar of revenue that the salesperson produces. To calculate the multiplier, divide the target commission compensation ($40,000) by the revenue target ($1,000,000). This produces a multiplier of .04.
If a salesperson receives a base salary of $40,000, their target annual commission compensation is $60,000. Dividing the target commission compensation ($60,000) by the revenue target ($1,000,000) produces a multiplier of .06.
The following table compares the earnings produced by these two compensation plans at three different levels of sales production.
| Annual Sales Volume | Multiplier | Annual Commission Earnings | Annual Salary | Total Earnings |
| $800,000 | .06 | $48,000 | $40,000 | $88,000 |
| $800,000 | .04 | $32,000 | $60,000 | $92,000 |
| $1,000,000 | .06 | $60,000 | $40,000 | $100,000 |
| $1,000,000 | .04 | $40,000 | $60,000 | $100,000 |
| $1,200,000 | .06 | $72,000 | $40,000 | $112,000 |
| $1,200,000 | .04 | $48,000 | $60,000 | $108,000 |
As you can see, the salesperson with the higher base salary will have higher total earnings when the annual sales volume produced is less than the target of $1,000,000. Both salespeople will earn exactly the same amount if they hit the annual sales target on the nose. When production exceeds the annual sales target, the salesperson with the lower base salary will have higher total earnings.
The fairness concern is that these two salespeople can earn different amounts of compensation for selling exactly the same amount!
This fairness concern is eliminated when a Non-Recoverable draw is paid instead of a Salary.
In a non-recoverable draw compensation plan, the multiplier for both salespeople would be $100,000/$1,000,000 = .10. This multiplier would be applied against every dollar of revenue produced to calculate actual commissions for each period. The non-recoverable draw would be subtracted from each period's actual commissions, and any positive difference would be paid to the salesperson in the next period.
Under the non-recoverable draw model, at any level of annual production, both salespeople earn exactly the same amount… as long as their monthly production exceeds their non-recoverable draw amount. If actual commissions are lower than the non-recoverable draw by large amounts or with any regularity, the fairness concern will be resurrected, as the individual with the higher draw will show higher annual earnings.
The risk of this occurring can be dramatically reduced if you inspect your salespeople's activities on a regular basis, which is a topic for another blog post.