A salary cap is the upper threshold your company pays for employees in each position. Although the term "salary cap" generally is used in the athletic arena, the same principles may apply in the traditional workforce. The pros and cons of salary caps range from effective budgeting to placing limitations on employee earnings and morale. Organizations generally put caps on salaries to foster pay equity and manage compensation costs. That being said, any employer can put a cap on salaries; however, there should be a justifiable reason to do so.
Employers base their compensation and benefits structure on job analyses, current and future workforce needs, labor market trends and anticipated labor shortages or labor saturation. Most employers' goals include setting competitive wages to attract and retain the most qualified employees. In addition to salaries and wages, employers consider the cost of benefits in their total labor expenses. Generally speaking, salary caps are part of the debate concerning employee compensation. Discussions about salary caps should occur between human resources or compensation specialists and the company's finance manager.
Well-constructed compensation plans generally have minimum, mid-level and high salary ranges. Inexperienced employees or workers new to the field typically start at the minimum level and progress upward based on job performance, promotion and employee development. The minimum salary is deemed the competitive rate for the industry and the upper salary range represents a cap on the amount an employer will pay, based on employee performance, qualifications and tenure.
Salary Cap Pros
Salary caps are essential, particularly in large organizations where the compensation structure is more defined. Smaller businesses may give their managers latitude in determining salary increases for employees, which can raise salary levels and put employees closer to the salary cap sooner than is possible with a large company. Putting a cap on salaries stabilizes the organization's budget -- they prevent unanticipated salary expenses and they enable the organization to project future costs to hire and retain employees with greater accuracy.
Salary Cap Cons
The disadvantage of salary caps is the potential of long-term employees becoming red-circled. Red-circled employees are workers who have been with the company long enough and have received the maximum salary increases over the years to reach a salary cap for their positions. In this instance, salary caps have a negative impact on the workforce. Employees with little chance for increasing their salaries might exhibit signs of complacency or their performance may remain steady because they don't have an incentive to improve because they won't receive an increase based on their performance evaluations.