Incentive Compensation

Incentive compensation is compensation (i.e., pay) that is awarded to employees for achieving a certain goal or, more generally, performing at a certain level. All compensation has an incentive effect. The prospect of being paid motivates employees to show up for work and do their jobs. In practice, however, incentive compensation refers to the contingent compensation offered to employees to motivate them to perform their jobs especially well. Incentive compensation comes in many forms, such as bonuses, grants of restricted stock or stock options, and profit- or gain-sharing plans. Incentive compensation plays an important role in agency theory, where it is thought to be a key tool for aligning the interests of agents and principals. While many employers use some form of incentive pay, a ...