The Compensation Pay Model in HR is a structured framework that defines how employees are rewarded for their work. In modern organizations, compensation is not just about salary. It includes incentives, bonuses, allowances, and benefits that align employee performance with business goals.
A well-designed Compensation Pay Model in HR helps organizations attract talent, retain employees, and maintain internal equity. In 2026, companies are focusing more on strategic compensation planning to remain competitive in the job market.
This complete guide will explain everything you need to know about the Compensation Pay Model in HR, including types, structure, real examples, and best practices.
What is a Compensation Pay Model in HR?
A Compensation Pay Model in HR refers to the systematic approach used by organizations to determine employee salaries, incentives, and benefits. It defines how pay is calculated, distributed, and managed across different job roles.
Objectives of Compensation of Pay Model in HR
The Compensation Pay Model in HR helps managers design the structure and understand the compensation system for their employees. Compensation systems, according to the Pay Model, are developed to meet organizational goals.
1. Efficiency
Effective compensation systems contribute to efficiency in the form of improved performance, better quality, satisfied customers, or reduced costs.
2. Equity
Fairness refers to the design and introduction of a reward system that rewards performance and meets employee needs. Equity is the foundation of healthy working relationships, which means that employees should be treated fairly and receive a salary that is appropriate for the work they do.
3. Conformity
Compensation models are subject to the requirements of national and national wage laws and regulations. Compliance with regulations is an integral part of any organization that wants to act in accordance with the law. As the law changes, the compensation system must also change.
Types of Compensation Pay Model in HR
There are several types of Compensation Pay Model in HR used by organizations.
1. Fixed Pay Model
In this type, employees receive a fixed monthly salary regardless of performance.
Example:
An HR Executive earning ₹35,000 per month as fixed salary.
Advantages:
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Income stability
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Easy payroll management
2. Variable Pay Model
This Compensation Pay Model in HR includes a performance-based component.
Example:
₹25,000 fixed + performance incentives.
Benefits:
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Motivates employees
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Increases productivity
3. Performance-Based Pay Model
Pay depends entirely on achieving specific targets or KPIs.
Common in:
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Sales
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Marketing
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Corporate leadership roles
4. Commission-Based Model
Employees earn based on sales percentage.
Used mainly in:
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Sales teams
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Business development roles
5. Skill-Based Pay Model
Employees are paid based on skills, certifications, and competencies.
Example:
Payroll-certified HR professional earning higher salary than non-certified HR executive.
6. Broadband Pay Structure
Salary ranges are grouped into wide bands instead of fixed grades.
Used in modern corporate organizations.
Different forms of Compensation
There are several common forms of compensation. It is up to the employer to choose the benefits that match the objectives of the company and the needs of the employees. The following are examples of compensation:
1. Basic salary
Basic salary is the starting salary paid to an employee. This does not include any additional benefits. This is the remuneration that an employee receives for his services rendered to the company. The basic salary of an employee can be expressed in terms of hourly, monthly or annual salary.
2. Commissions
Commissions are another type of remuneration. It includes the base salary that an employee receives as well as other types of compensation paid for their work. This usually happens after a certain goal is achieved, such as selling a specific number of products or services.
3. Overtime Compensation
This rule ensures that employees are properly compensated for hours worked beyond their contract. These hours are generally not voluntary and unpaid. It is illegal in many countries and is organized by law.
4. Bonuses
A bonus salary is remuneration greater than the basic salary or the hourly rate. Employers have the flexibility to distribute these bonuses throughout the organization as they see fit, for example for positions that require a lot of responsibility. However, they should always be aligned with company goals.
5. Stock Options
Profit sharing is another bonus system used by organizations. It requires employees to receive a share of the profits. The amount they earn is based on the profit that the business has made during a given period. Usually, it is awarded annually.
6. Travel / Meal / Accommodation Expense Reimbursement
Other forms of compensation are available to employees. Think about travel expenses, meals, or other expense reimbursements. Travel costs are usually compensated based on the amount per kilometer driven.
7. Other Benefits
Other Benefits are:
- Dental Insurance
- Health Insurance
- Personal Insurance
- Medical Insurance
- Leave Days
- Pension Schemes
- Tax Benefits
Structure of Compensation Pay Model in HR
1. Basic Salary
An organization pays salary to its workforce in lieu of the services rendered. Here, the compensation that is offered comprises of several components, including basic salary, perquisites, allowance, and the likes.
The core part of total compensation.
Usually 40–50% of total CTC.
CTC:
Cost to company or CTC is different from the in-hand salary. CTC includes components such as basic salary, special allowances, HRA, employee provident fund, etc.
2. Gross Salary
The salary amount calculated before the deduction of taxes or any other deduction is the gross salary. Gross salary includes the basic pay, dividends or bonus, or any other differentials.
Gross Salary is the total salary an employee earns before any deductions like PF, ESI, TDS, or professional tax.
Formula of Gross Salary
Gross Salary = Basic Salary + HRA + Allowances + Bonus (if applicable)
Example of Gross Salary Calculation
Let’s understand with an example:
Basic Salary – ₹25,000
HRA – ₹10,000
Special Allowance – ₹5,000
Medical Allowance – ₹2,000
Gross Salary = ₹42,000
Now deductions:
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PF – ₹3,000
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Professional Tax – ₹200
Net Salary = ₹38,800
3. Net salary
Net Salary is the amount of money an employee receives in their bank account after all deductions.
It is also called Take-Home Salary.
What is Net Salary?
Net Salary is the final amount paid to the employee after subtracting:
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Provident Fund (PF)
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Employee State Insurance (ESI)
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Professional Tax
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Income Tax (TDS)
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Other deductions (if any)
In simple words:
Net Salary = Gross Salary – Deductions
Example of Net Salary Calculation
Let’s understand with an example:
Salary Details:
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Basic Salary – ₹25,000
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HRA – ₹10,000
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Special Allowance – ₹5,000
Gross Salary = ₹40,000
Deductions:
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PF – ₹3,000
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Professional Tax – ₹200
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TDS – ₹1,000
Total Deductions = ₹4,200
Final Calculation:
Net Salary = ₹40,000 – ₹4,200 = ₹35,800
So, ₹35,800 is the take-home salary.
4. Gratuity
Gratuity is a lump sum benefit paid by employers to those employees who are retiring from the organization. This is only payable to those who have completed 5 or more years with the company. The gratuity amount is paid in gratitude for the services rendered by the individual during the period of employment. According to the Payment of Gratuity Act, 1972, gratuity is calculated as 4.81% of the basic pay. Most firms with a workforce of 10 or more employees come under the Act.
Gratuity Calculation Formula
Gratuity = (Last Drawn Salary × 15 × Number of Years of Service) ÷ 26
Where:
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Last Drawn Salary = Basic Salary + Dearness Allowance
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15 = 15 days salary
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26 = Working days in a month
Example of Gratuity Calculation
Let’s understand with a simple example:
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Last Basic Salary = ₹30,000
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Years of Service = 6 years
Calculation:
Gratuity = (30,000 × 15 × 6) ÷ 26
Gratuity = ₹1,03,846 approx.
So, the employee will receive around ₹1,03,846 as gratuity.
5. Provident Fund (PF)
Employee Provident Fund is an employee benefit scheme where investments are made by both the employer and the employee each month. It is a savings platform that aids employees to save a portion of their salary each month, from which withdrawals can be made following a month from the date of cessation of service or upon retirement. At least 12% of an employee’s basic salary is automatically deducted and goes to the Employee Provident Fund every month in the labour law. The contributions are maintained by the Employees Provident Fund Organization (EPFO).
PF Contribution Formula
Employee Contribution:
12% of Basic Salary + Dearness Allowance
Employer Contribution:
12% of Basic Salary
(Out of this, 8.33% goes to EPS and 3.67% to EPF)
Example of PF Calculation
Let’s understand with an example:
-
Basic Salary = ₹20,000
Employee PF (12%)
₹20,000 × 12% = ₹2,400
Employer PF (12%)
₹20,000 × 12% = ₹2,400
Total monthly PF deposited = ₹4,800
This amount earns interest every year.
6. House Rent Allowance (HRA)
A house rent allowance is that component of the salary which is paid to employees for meeting the cost of renting a home. It offers tax benefits to the employees for the sum that they pay towards their accommodation every year. Salaried individuals residing in rented homes can claim this exemption and reduce their tax liability.
HRA Deduction
The salary or pay for individuals can be defined as the sum of their basic salary, DA (dearness allowance), and any/all other commissions as applicable. HRA deduction calculation for employees residing in a metro will be 50% of the basic salary and is 40% for residence in a non-metro city. In case of salaried individuals without a DA component or commissions in their remuneration, the HRA allowance will be 40 or 50% of their basic pay.
Example of HRA Calculation
Let’s understand with a simple example:
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Basic Salary = ₹30,000
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Employee lives in a metro city
HRA = 50% of ₹30,000
HRA = ₹15,000
So ₹15,000 will be included as HRA in gross salary.
7. Employee State Insurance (ESI)
ESI is a government scheme where both employer and employee contribute a small percentage of salary every month by the labour law.
It provides:
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Medical treatment
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Cash compensation during illness
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Maternity benefits
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Disability benefits
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Dependents’ benefits (in case of death due to employment injury)
ESI Contribution Rate (Current)
Employee Contribution:
0.75% of Gross Salary
Employer Contribution:
3.25% of Gross Salary
Example of ESI Calculation
Let’s understand with an example:
-
Gross Salary = ₹18,000
Employee Contribution (0.75%)
₹18,000 × 0.75% = ₹135
Employer Contribution (3.25%)
₹18,000 × 3.25% = ₹585
Total ESI Contribution = ₹720
Employee pays ₹135 from salary, and employer pays ₹585 separately.
8. Dearness Allowance (DA)
To neutralize the impact of inflation, an allowance is given to the public sector and government employees and pensioners called a dearness allowance. Dearness allowance is fully taxable with salary and according to the Income Tax Act it becomes mandatory to declare the tax liability for dearness allowance along with the salary in the filed return.
9. Conveyance Allowance
Conveyance allowance, also known as transport allowance, is a kind of allowance offered by employers to their employees to compensate for their travel expense to and from their residence and workplace. The extra allowance given by companies to its employees to compensate for their travel between their work location and residence is known as Conveyance Allowance. This amount may or may not be taxable under the tax laws of the country.
Conclusion
The Compensation Pay Model in HR is the foundation of an effective salary and rewards system within any organization. It goes beyond just paying employees a monthly salary. A well-structured compensation model includes basic salary, allowances, statutory benefits, incentives, bonuses, and long-term benefits like PF and gratuity.
An effective Compensation Pay Model in HR helps organizations achieve three major objectives: efficiency, equity, and conformity. It improves employee performance, ensures fairness in pay distribution, and keeps the company compliant with legal regulations.
From fixed pay and variable pay models to statutory components like PF, ESI, HRA, and gratuity, every element plays an important role in building a transparent and motivating compensation structure. Organizations that strategically design their compensation systems are more successful in attracting top talent, retaining employees, and improving productivity.
In 2026 and beyond, companies must regularly review and update their compensation strategies to remain competitive, legally compliant, and aligned with business goals. A strong Compensation Pay Model in HR is not just a payroll function — it is a strategic HR tool that drives organizational success.
Frequently Asked Questions (FAQ)
1. What is a Compensation Pay Model in HR?
A Compensation Pay Model in HR is a structured system that defines how employees are paid, including salary, allowances, bonuses, and statutory benefits.
2. What are the main objectives of a Compensation Pay Model?
The main objectives are:
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Efficiency (improving performance)
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Equity (ensuring fairness)
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Conformity (legal compliance)
3. What is the difference between Gross Salary and Net Salary?
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Gross Salary is the total salary before deductions.
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Net Salary is the take-home amount after deductions like PF, ESI, and taxes.
4. Is Provident Fund (PF) mandatory?
Yes, PF is mandatory for eligible employees under the EPF Act. Both employer and employee contribute 12% of basic salary.
5. What is the eligibility for gratuity?
An employee must complete 5 continuous years of service to be eligible for gratuity (except in cases of death or disability).
6. How is HRA calculated?
HRA is usually:
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50% of basic salary for metro cities
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40% of basic salary for non-metro cities
It also provides tax benefits under certain conditions.
7. What is ESI and who is eligible?
ESI is a social security scheme providing medical and financial benefits. It applies to employees earning ₹21,000 or less per month (as per current rules).