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Differences between profit-sharing plans
Profit-sharing plans may have different plan design which is typically based on when profit shares are distributed.
| Cash plans | pay out profit shares at regular intervals, also known as current-distribution plans |
|---|---|
| Deferred plans | put the profits to be distributed in the hands of a trustee, and distribution is delayed until some event occurs; this type of plan is frequently tied to a retirement plan |
| Combination plans | distribute a part of the current profits and defer the rest |
Provisions in profit sharing plans may vary relative to:
- organization contributions
- employee allocation
- eligibility requirements
- payout provisions
Organization contributions. Two-thirds of profit-sharing plans define the contribution of the organization by a formula; in the balance, the board of directors determines this amount. Most formulas specify a straight percentage of before-tax profit after reservations for stockholders and reserves. This percentage can be fixed (such as 10 percent) or established for each period by management decision.
Employee allocation. The amounts allocated to employees or their accounts are usually based on their compensation. This is ordinarily done by calculating an employee's base pay as a percentage of total payroll and giving the employee that percentage of the total profit-sharing allocation. However, an employee’s profit share also may be influenced by:
- length of service
- contributions
- performance
- responsibility
Eligibility requirements. In most plans, all full-time employees are eligible immediately or after a short waiting period; however, a substantial minority of plans exclude union employees or are limited to specific employee groups.
Payout provisions. Payout provisions are usually determined by plan design (cash, deferred, or combination), but deferred and combination plans are increasingly incorporating vesting provisions and payout under a wide variety of circumstances.
Performance-motivation
Profit sharing does not closely fit the performance-motivation model. Profits are influenced by so many variables that it may be difficult for an individual to feel that his or her contributions have organization-wide results.
| Small Organizations | Large Organizations |
|---|---|
| It may be possible for small organizations with cash plans to use continuous communication to reinforce the performance-reward relationship, but any reduction in profits that occurs while the employee is maintaining his or her performance level may negate the relationship. | Larger organizations with cash plans are less likely to be able to foster the performance-reward connection in the first place and may be even more vulnerable to changing circumstances. |
Deferred plans involve the additional hurdle of delayed payment, often for years. Under such plans, employee belief in the performance-reward relationship may be impossible (even in small organizations).
Memory Jogger
You are thinking of implementing a profit-sharing plan in your company. You want to ensure that employees maintain their belief in the performance-reward relationship. This will be most likely if your company is a: