Stay-at-home orders opened our eyes to working remotely; it’s typically better for hiring top talent and working flexibly, too. Not as bad as we would’ve thought.
But, the new norm questions some old policies. For example, an employee’s location determines their cost-of-living and that, in turn, helps calculate their salary. So, it begs the question: should employee salaries be locally adjusted based on their varying regional expenses?
In this article, we’ll give you the case for both the “cost-of-living” differentiator and a universal salary policy for everyone to help you decide what’s best for your company.
Economic Considerations for Pay Adjustments
Alongside the cost of living factor, you need to know what economic variables impact adjusting compensation. Getting familiar with the following concepts will help you understand the following points in this article, too.
Are you in a position to bargain? Remote workers in different cities will have to assess personal opportunity costs. As in, they must see what they’re losing as their next-best alternative if they pick your employment offer. If they’re not losing much–or anything at all, they won’t have much bargaining power because there isn’t a better offer waiting for them.
Assessing regional competitor’s salaries and benefits will allow you to optimize your salary offers to the lowest possible wage (or “reservation wage”) that remote workers would accept in the labor market. This, of course, will vary significantly depending on where your workforce lives. Most U.S. jobs–for example, tech workers, have stronger bargaining positions than other sectors.
“Compensating differentials” is a term in labor economics that refers to the relation of wage rates and the tolerance of undesirable conditions of a job. For example, some countries or cities are naturally more desirable (or undesirable) than others–due to weather conditions, real estate prices, local culture and diversity, and infrastructure.
The likeability of an area will impact a worker’s pay tolerance to live there. When it comes to remote working, compensating differentials may have less influence on wage rates, as remote workers can move wherever they like. Exceptions apply when remote workers can only move within a certain geographical zone in order to work remotely.
“Urban productivity” is the idea that employees become increasingly productive in urban areas. Doubling city size can boost productivity by 4-5%. Two professionally identical employees can work in two different cities, and the one in the more urbanized region will usually get more done.
Why? Because the more urban a region is, the more opportunity there is for development. There are better quality resources. So, that means faster internet, proximity to knowledge centers like universities and libraries, milder weather, successful professionals walking about (more robust work culture). The list could go on. Even working remotely, many employees will have their pay impacted by these local factors.
A Breakdown of Locally-Adjusted Compensation Strategies
Before diving into the million-dollar question of whether or not you should provide salaries by location, you should know that there are multiple compensation strategies–three main ones today to give you an idea of how companies typically pay remote employees. The first two are based on “universal salaries,” which you will learn more about in the next section. The third point is based on the “cost-of-living” factor.
Pay by National Median
This has been the traditional approach for years when companies assess the national median salary in their industry and offer that fixed amount–or a bit higher for a job. However, usually, this strategy pertains to local markets in the country.
Pay by Employer Location
Many companies will use the location of their headquarters to come up with a pay range. A tech company, for example, may provide generous salaries based on an office in New York City, where the most competitive markets exist for talent groups with business-critical skills.
Pay by Employee Location
This is the only approach that will cause employee compensation to fluctuate since it varies upon location. More specifically, it’s about the cost of living and the economic factors covered in the preceding section that vary regionally.
If you choose to pay people with this method, ensure that you create a fair and irrefutable policy and paste it into a handbook for reference. Otherwise, adjusting salaries can very easily create conflict in the workplace.
What is a Universal Salary?
A universal remote work salary is paying everyone the same wage no matter where they work. Global salaries take experience, education level, skill, and other factors when forming a base amount. But, not location.
The Case for a Universal Salary
Many folks share the opinion that since remote companies aren’t location-dependent, the salary shouldn’t be influenced by region, either. That makes sense; after all, remote workers don't want to get penalized for living where they enjoy the most–especially when you’re the party seeking help with a remote gig in the first place.
A global salary also provides logistical ease for a lot of businesses. Even if remote employees move, you don’t need to worry about adjusting salaries to fit their new place because they consistently earn the same.
You can also avoid the awkward situation of giving the “talk” to your employees if their salaries must be lowered. You are getting paid based on your experience and output and not based on where you live.
Global salaries also prevent discrimination from hiring managers. If hiring from the US or Asia doesn’t make a financial difference anymore, it can lead to more objective decisions and more diversity and inclusion.
Disadvantages of a Universal Salary
You may be overcompensating employees in ‘low-cost’ regions, which not only is unfair to other employees, but you’re not doing a great job in cost-minimization.
What is the "Cost of Living" Factor?
The cost of living factor is a coefficient determined by – as the name suggests – the cost of living in a particular place. Every region has different cost ranges and buying power, some significantly more than others. Buffalo, for example, is one of the most affordable cities in the U.S., while in NYC, you live in a closet for $2,000 a month.
Many companies are using this cost of living factor to provide fair salaries across the world. Buffer even goes as far as to publish this coefficient as part of their salary calculator.
Salaries adjusted for cost of living apply to the base salary for a position, usually determined by other variables like experience, team, rank, and education.
The Case For a 'Cost of Living' Factor
Here’s a financial nightmare (for the employer): without a cost of living factor, you’re paying a remote software engineer from Germany, for example, the same as a person in the Bay Area. That’s 3x his local salary thanks to the San Francisco average pay.
Now, this may seemingly be “fair” based on the salary’s absolute value. But, if we practically consider buying power (currency exchange), the person in Germany knows they’re in a better position than the person in San Francisco. The cost of living is less in Germany than it is in SF on the U.S. dollar. You can therefore avoid over-compensation and save on salary expenses by adjusting salaries by location.
Adjusting salary based on location also allows remote companies to provide higher buying power for everyone equally. Thanks to these tradeoffs and savings for employees in 'lower cost' countries, they can pay everyone’s salaries, e.g., 20% over the average pay. That seems fairer than giving one party a lot more local buying power than the other.
Disadvantages of The Cost of Living Factor
Adjusting salaries may be cost-effective and “reasonable,” but it could also make you look selfish, unjust, and even discriminatory. As a result, you could see poor employee morale, worse performance, and weaker loyalty.
If a company is based in Germany and decides to hire based on local salary averages, it is not tempting to work there if you are based in San Francisco. That limits a company's potential for hiring top talent and pushing for diversity in the workplace.
Keeping track of people's locations and calculating their living costs and whatnot can be a logistical nightmare. Frequent movers may find the policy less accommodating.
It’s also pretty tricky to measure the “cost of living.” Solely basing off rent prices won’t do. Cost of living isn't something universal; it’s highly personal and individual. Furthermore, the cost of living often determines how and where we live, and vice versa. In some sense, it's a chicken-and-egg problem: If you didn't make much, you need to move to a cheaper place, your cost of living becomes lower, so companies pay you even less? That's not right.
Pro-tips for providing salaries by location
Even if you establish a fair strategic policy, lowering pay is bound to complicate the employee. Remote workers will be reluctant to agree with the pay cut because they know you previously supported and budgeted for their higher salary. No matter which way you put it, management looks selfish.
Don’t reduce, but freeze salary growth.
So, your alternative option (remember to add it into your policy–consistency is vital, or else you look unfair) is to let them know that they’re no longer eligible for salary raises because they’re at the top of their pay range for their location. Just keep in mind that if you lower wages for employees, you must be ready to increase the cost of living compensation for employees in a more expensive area.
Be communicative and consistent.
With salary-related matters, you need to be as transparent as possible with existing employees and new hires. Every decision should have a specific, logical reason backing it. And, if you’re consistent on your policy, then you’ll be able to confidently answer questions or critiques regarding your cost of living adjustment salary policy.
For instance, a concern you’re bound to come across if you go through with providing a salary adjusted for cost of living is that “it’s unfair to pay workers completing the same job and providing equal value differently based on the local market.”
You can reply that basing compensation on market data of how competitive local labor markets are is more accurate in paying employees fairly with competitive wages. You also want to remind your workers that salaries by location are not new; many organizations have already been paying employees based on their location–even before COVID-19.
Seriously, we won't be able to give you the absolute answer to this issue, and it is largely something that depends on how you want to run your business and build your team, but here's a quick overview.
A globally universal salary allows you to:
- distribute a globally fair and universal compensation to everyone
- minimize the effort to keep track of nomads and frequent movers
- create a suitable environment for folks that have or want to live in a low-cost location and way (for various reasons)
- hire from anywhere and not worry about the cost
- minimize awkwardness and envy between team members
Locally adjusted salaries allow you to:
- Enable the same amount of buying power anywhere
- Re-invest savings into higher overall salaries
- make it as tempting to work for you in high-cost areas, as well as low-cost areas
The final decision is up to you.
- Remote.com: "Compensation for remote employees"
- Sam Ferree via Dev.to: "Why I think "Cost of Living" pay for remote workers is BS"
- Flexjobs: "How Companies Set Salaries for Remote Jobs"