How to Benchmark Compensation in 5 Steps

Compensation decisions aren’t just about numbers. They’re also about people, perception, and positioning in a competitive market. If your pay falls too low, then you risk not attracting and retaining talent. If it’s too high, then your company might overspend.

So, how do you benchmark compensation effectively? Let’s walk through a solid, straightforward five-step process you can follow to make confident, data-driven decisions.

Here’s What You’ll Learn

• Why compensation benchmarking is critical for staying competitive and keeping top talent
• A clear, five-step approach HR teams can follow to benchmark pay
• Common challenges in competitive and changing labor markets and how to avoid them
  

What is Compensation Benchmarking and Why Does it Matter?

Let’s start by defining compensation benchmarking. Simply put, compensation benchmarking is the process of comparing your company’s pay for specific roles to the external market. This helps you create competitive and equitable job structures.

Think of it as asking, “If candidates looked at our salaries, would they find them fair and competitive and want to work for us?” Benchmarking helps you with this, as it can confirm that your pay ranges are competitive, help you build structured salary ranges for your roles, and help identify which roles may need premium pay to attract hard-to-find skills.

A thoughtful benchmarking approach helps protect your company from internal pay compression and keeps you aligned with market expectations. A clear, structured method is key, especially in a highly competitive market.

Let’s get right to the details. The following is a 5-step approach that you can start incorporating into your company’s compensation philosophy and strategy.

Step 1: Define Your Competitive Market and Your Pay Target

Before you start collecting data, ask yourself: “Who exactly am I competing with for new hires?”

Defining your talent market means looking at things like:

• Geography: Are you competing locally, regionally, or nationally? Even if you have remote roles, location still influences pay.
• Industry and company size: A small tech startup can’t always compete with a Fortune 500 for the same candidates in the same way.
• Role difficulty: Some positions, like cybersecurity specialists or senior data scientists, can be more difficult to fill, so you might consider paying above market.

Next, set your compensation strategy and philosophy. Do you aim to pay at the 50th percentile of market rates, or do you prefer a lead strategy where you pay more aggressively for critical roles? Defining this early avoids confusion later and helps sync your benchmarking with your overall talent strategy.

HR Pro Tip: If your company is struggling to fill a high-demand or hard-to-fill role, then one option is to set your target above market. It can make a difference when it comes to recruiting and retention. With that said, you need to decide if both the short and long-term objectives of paying over market are truly driven by business need and are reasonable and sustainable. You can also consider other options in lieu of paying above market, like a signing bonus, or other new hire perks.

Be sure to document any outliers that don’t fit into your pay philosophy or strategy, so you have a record of why the company decided to pay above market or make other exceptions. This supporting documentation will help you if any pay decisions are challenged.

Step 2: Choose Jobs to Benchmark and Do Thorough Job Matching

A common mistake in compensation benchmarking is only matching jobs you want to compare by title. Just because your company calls someone a “Senior Analyst” doesn’t mean their role aligns with the market. Titles can vary greatly from company to company.

A more effective approach is to start with benchmark roles that cover approximately 60–80% of your headcount or key functions. You can expand to other roles later in the process. Match roles by responsibilities, scope, skills, decision-making authority, and reporting relationships.

Take it a step further and create a simple job-matching checklist or scorecard to guide this process. Again, include the following functions:

• Core duties
• Decision-making scope
• Years of experience and skills required
• Reporting level

This approach helps prevent potential issues, like overpaying for a role that isn’t as complex as the market equivalent or underpaying a more high-impact role.

HR IRL: Let’s say that one HR team thought their “Marketing Manager” was aligned with market data. After scoring by responsibilities and scope of decision-making, they realized it actually matched a “Senior Marketing Manager” in the market survey. Adjusting pay accordingly saved time (and headaches) in the long run when it came to retention.

Step 3: Collect Market Data That Fits Your Labor Market

Once you’ve defined your roles, it’s time to gather data. Remember that not all sources are equal. Prioritize employer-submitted surveys over self-reported employee data, and multiple data sources to cross-check results.

Focus on data that matches your labor market, such as industry, geography, and company size. Include overall compensation and not just base pay. Bonuses, incentives, or other unique differentials can make a significant difference in competitiveness.

HR Pro Tip: For hybrid or remote roles, pay attention to the locations of employees and adjust your data sources accordingly. A remote developer in San Francisco, CA may have a much different benchmark than one in Atlanta, GA.

Step 4: Normalize the Data for Today’s Market

Market data isn’t static. Survey results can change rapidly and geographic pay trends shift constantly. In order to make current and fair decisions, you’ll need to “normalize” your data, and make sure it’s a current as possible, including:

• Age data to a common effective date: using an aging factor, especially if survey data is old.
• Apply geographic differentials: Even if a role is fully remote, location impacts cost of living and market pay.
• Decide percentile strategy by role type: High-value or hard-to-fill roles may warrant targeting the 75th percentile of compensation, or even higher.

Competitive markets often require more frequent refreshes and premium pay logic for hard-to-find skills, so keep that in mind when planning your compensation processes. Ignoring this can lead to persistent hiring challenges and will take up more of your time.

HR IRL: An HR team reviewing their IT pay data realized that cloud engineers were being underpaid compared to market value, especially in certain cities. By adjusting for geographic differentials and targeting the 75th percentile, they increased acceptance rates for top candidates.

Step 5: Build Pay Ranges and Calibrate Internally

Now that you have benchmarked and normalized data, it’s time to build or revise your compensation structure and actionable pay ranges. You can do the following:

• Convert benchmark points into min/mid/max ranges.
• Review internal equity to avoid pay compression issues between new employees and long-standing tenured employees. It goes without saying that you don’t want to create internal issues during this process.
• Check alignment with your compensation philosophy and talent strategy.

The goal is an efficient, repeatable, and defendable system. Once ranges are set, you can consistently make pay decisions that reflect the current market while keeping your current employees satisfied.

HR Pro Tip: Consider creating a simple internal dashboard to track benchmark updates, hard-to-fill roles, and pay percentile targets. It can make refreshing and recalibrating easier down the line.

What Compensation Benchmarking Means for Your Organization

Benchmarking compensation is an ongoing process and not a one-time project. For most companies, an annual review is essential, but for highly competitive roles or certain locations, more frequent updates are often necessary.

A thoughtful benchmarking approach ultimately helps you build competitive compensation packages without overspending, retain your top talent, and make data-driven decisions that can be justified.

Of course, pay equity is a key consideration at every step. OutSolve’s Pay Equity checklist, Compensation Benchmarking Guide, and compensation consulting services can take the heavy lifting off your plate, so you can focus on strategy instead of spreadsheets and number crunching. Our consultants can partner with you and help you with this entire process. Contact us today for more information.

Compensation Benchmarking FAQs

1. How do I choose the right labor market for benchmarking?
   Focus on company size, industries, and locations where you are competing for talent. Include adjustments for remote employees, if applicable.

2. How often should we benchmark compensation?
   At a minimum, annually. “Hot” roles, competitive locations, or more scarce skills may require more frequent reviews, like semi-annually or quarterly.

3. How do geographic pay differentials work for remote employees?
   Even for remote roles, location affects market pay. Adjust benchmark data based on the employee’s primary work location or a company-wide remote pay philosophy.

4. How do we benchmark roles that don’t have a perfect market match?
   Use job matching by responsibilities, skills, decision-making scope, and reporting level rather than titles alone. Consider creating a composite benchmark for similar roles.

5. Where can I find assistance with this process?

   Partnering with a HR compliance as a service provider, such as OutSolve, can assist you with every step in this process.
   

Sarah Jane Hannan

Sarah Jane Hannan plays a vital role in leading compensation projects at OutSolve, where her ability to work efficiently and collaboratively with clients ensures the successful execution of complex initiatives. She brings expertise in external market benchmarking and supports the design and interpretation of Multiple Linear Regression analyses, translating complex data into actionable recommendations. Sarah Jane is an expert in state pay transparency laws and provides guidance to companies nationwide on how to remain compliant with the requirements. She is also the product manager for compensation consulting services at OutSolve, helping to develop new products and make adjustments to existing products as laws change and evolve. Her background in Non-Discrimination in Employment, EEO-1 reporting, and VETS-4212 reporting strengthens her understanding of compliance and workforce equity. With a B.S. in Psychology from Northwestern State University and an M.S. in Industrial/Organizational Psychology from Southeastern Louisiana University, Sarah Jane applies analytical rigor and organizational insight to help clients build fair, defensible, and competitive compensation programs.