How Is Sales Commission Defined
A sales commission is compensation based upon a percentage of revenue from a sale or sales. In many cases, a sales commission is a commission on gross revenues, although it may be based upon net revenues inclusive or exclusive of certain costs and fees. Depending on how successfully the employee performs, and depending on how compensation is structured, a sales employee may make far more than he or she would make if paid a set salary. There are a wide range of commission structures used in the sales industry, including the following:
Base plus – The salesperson is paid a wage with the understanding that he or she is expected to earn additional compensation through commissions. Straight commission – The salesperson is paid no wage, but instead compensated entirely by commission. If the salesperson fails to meet a pre-established minimum sales goal , the salesperson may be given a different position or fired. Salary plus commission – The salesperson is both salaried and entitled to a commission. Draw against commission – The salesperson is advanced an amount each pay period that is later deducted from the commissions earned, and may be charged interest for the service as well.
There are also various ways in which commission may be calculated. For example, commission may be computed as a percentage of gross sales, net sales, net profit, or even net profit after taxes. Ideally, the salesperson should be educated about the calculation of compensation, the intended structure of compensation, and any other fact the salesperson requires to understand the nature of his or her compensation in advance of entering into the contract.
How Commissions Are Earned Legally Under The Law
For a sales commission to be legally "earned" the employer must have taken action and that action must have been made known to the employee. In other words, an employer cannot decide it does not like how employees are doing their work and then eliminate the commission program or attempt to change its terms. This is clearly demonstrated in the Supreme Court case of Simonton Co. v. Anderson, 353 So.2d 639 (Fla. 1977). In this case, a home builder recruited the sales rep, who was already selling homes for another builder, to work for him. The employer told the employee that he would make 6% on the base price of each house sold plus an additional commission for any upgrades sold of the same percentage. The employee began selling homes for the new builder but his difficulties with another employee of the builder not only forced the sales rep to file a lawsuit to collect his commissions, but also caused him to move back to North Carolina. The dispute in this case arose because the builder wrote letters to the employee terminating the commission program to be effective thirty days after the date of the letter. The builder attempted to argue that this should not have caused any loss to the employee because he could have continued to sell homes during that thirty day period and still earned his commissions. The Supreme Court disagreed stating: Whatever might be the appropriate method of terminating such a contract if the contract were terminable on such short notice, the letter here was not a termination of an at-will contract. It was a termination of a specific part of that contract – the compensation part. Having induced Anderson to enter into the sales contract by specific promises about the compensation to be earned from sales of houses and having concomitantly encouraged the performance of that contract by Anderson, the employer could not by unilateral action limit Anderson’s compensation for the sales he thereafte[r] made of houses notwithstanding their completion, if he remained willing to make the sales. This is because a unilateral termination of commission arrangements to be earned upon performance of future services is generally ineffective to prevent their accrual with respect to services already performed after the termination. [cites omitted in original] The critical issue here is that the employer specifically induced the employee to perform the work and then attempted to change the terms of employment in order to save money. However, no one is entitled to work for free, and an employee who is actually working needs to be paid for that work. Otherwise, the employer attempts to accumulate unearned gratuities for its own benefit. Any time anyone does work they should be compensated for that work, and any time an employer attempts to cut them off from their compensation it usually creates a lawsuit where the employer inevitably loses money.
What’s An Agreement Worth
Contractual Agreements and Their Role in Determining When Commission is Earned Sales commissions can be earned legally only if contractual agreements are established between the employee and employer quantifying such sales commission. How such commission is earned by the sales agent does not depend on any one factor, but instead all of the terms and provisions of any contractual document must be considered. If the contract is specific enough to detail the material terms for the calculation of commissions, the existence of such a contract will dictate the conditions of commission entitlement. The more broad the stipulations of the contract, the greater discretion a court will likely use in determining how a commission is earned.
Essentially, contracts must provide sufficient detail assisting the courts with resolving any type of ambiguities involving the terms. A commission contract should explicitly set forth the following details: If a contract fails to adequately set out the terms of a commission compensation, or is found to be silent on whether the compensation is through a single sale or the continued performance of services, the resulting controversy will be addressed by the courts. A well drafted contract should contain all relevant information needed to ensure that the employment relationship and duties are clear, and to avoid any potential postemployment litigation. Unfortunately, many companies permit the performance of employment duties, such as sales, first and then develop a contract after the fact. If any deals are struck about commission compensation, they are often established orally or in an informal manner which increases the exposure of the employer to unpaid commission disputes. Even if a written commission contract is created before or after an employee begins rendering compensation, if it contains an ambiguous provision, the terms and provisions of the contract could be subject to interpretation of a judge. Therefore, it is critical that any written contract or agreement contains explicit terms regarding when commission compensation is to be paid, the method and measurement of such compensation, and what specific benchmarks must be met in order for such compensation to be due.
Sales Industry Commission Policies
Some industries have specific practices or policies that may affect when commissions are actually earned. For example, in the real estate industry, agents are frequently paid commissions once the sale closes (i.e., the sale will actually be recorded). In the pharmaceutical industry, sales representatives typically only receive commissions once a practioner actually writes a prescription. In the technology field, employees often receive commissions only when products are delivered to and accepted by a customer. These types of policies may apply regardless of whether the sales personnel are classified as exempt or non-exempt. Of course, in most cases, sales personnel who are classified as non-exempt employees need to be paid overtime pay on their earnings for commissions earned on an overtime week.
Sales Agent Commission Disputes
It is no wonder that, due to the high proportion of salesmen and women who are paid, at least in part, with commission, the issue of sales commission is one of the most frequent matters to arise in litigation before the Employment Tribunal.
Common commission disputes
Common disputes involve, for example, sales staff engaged on a permanent basis but who leave before they have fully realised complete commission on a deal or complex, long-sales cycle project; whether a target or sales threshold must be met before a commission is to be paid; and whether commission can be clawed back due to the client failing to pay. There are disputes involving the rate at which commission is to be paid, and whether it is payable when the turnover brought into the business may not be sustained (e.g. with schools, video shops etc). The situation is further complicated if the commission scheme is not documented.
How do commission disputes arise?
Where the scheme is described in a written policy, this policy may say whether it is discretionary or contractual. Sometimes it is difficult to tell from the policy whether the arrangement is contractual or non-contractual in nature. However, it will always be better to have a written scheme , rather than leave commissions to be paid by reference to unwritten protocols (e.g. a ‘half verbal’, ‘half written’ arrangement). If the scheme is not set out in writing, it may be open to dispute whether the commission is actually part of the contract of employment. This may get even more complex where the employee was not party to a written contract, for example where the business has grown exponentially (and so recruiting staff in their hundreds) and so you have old-timers at one end and a hundred recent recruits.
How are commission disputes resolved?
The steps to take in dealing with commission disputes vary according to whether the matter is dealt with internally, or through the employment tribunal. If it is an internal disagreement, a quiet word between buyer and seller may resolve the issues or some attempt to mere propriety and discretion. If that does not work, and the money at stake is significant enough, the business may want to bring in HR, legal or professional advisers to attempt to reach resolution. If the matter goes to a tribunal the case will usually be dealt with as a breach of contract claim in the civil jurisdiction, unless there are other issues such as discrimination that need dealing with.
Rightful Lawful Protection for Sales People
In situations where a written agreement with the employer does not exist, the salesperson will generally be left to argue that they were legally entitled to commission based on common employment concepts. In other words, that is, what is consistent with custom, the parties’ intent, and to what extent did the employer’s actions clarify the salesperson’s entitlement to commission. For example, if it is customary for the salespersons at a company to receive commission when they obtain a signed contract, then that should be enough to determine that the salesperson was legally entitled to commission. Determining what is customary can be much more difficult. If, however, there is a written agreement, the terms of that agreement will be the determining factor.
A few tips to help protect an employee’s rights to commission:
- Always draft a clear and unambiguous commission agreement when entering the sales field. A clear commission agreement should set forth how the commission will be calculated, what actions by the salesperson or customer will trigger the commission payment, if it makes a difference how long the customer stays, who will pay the commission, when the commission will be paid, and any other terms the parties feel should be important.
- Always keep copies of documents that create or evidence the commission entitlement. For example, if the client has to sign a contract for the transaction to go through, keep that contract. If there are any letters or emails evidencing your entitlement to commission, make sure you keep copies of those as well.
- If there is no clear contract, be careful when negotiating verbally. Unless you have awarded the right to receive commission to yourself in the company, this may not at all protect you.
Recent Cases and Statutes
Two recent California Court of Appeal cases are instructive for understanding the legal limits on commissions payable to sales representatives, and when such commissions are considered earned or licensed. First, in December 2015, the California Court of Appeal found in Securitas Security Services USA, Inc. v. Superior Court of San Diego Co., 233 Cal.App.4th 412 (2015) that a terminated sales representative was entitled only to commissions on sales of security services which complied with state law and were properly documented pursuant to the parties’ contract. That is, because the parties’ contract allowed for commissions only on properly executed contracts, the employer’s failure to obtain the proper signatures from customers or to perform by ensuring the customers purchase cameras meant that commissions were not yet due.
The Court of Appeal recently addressed an issue of first impression in a case involving a claim for commissions by a terminated employee. In tinnitus today: Late earned commission payments (Walter W. Johnson , Attorney.com 10/3/22), the latest court case set forth the historical rule of "the general rule usually applied is that the right to commissions vests only upon performance of the contractual conditions precedent to the right."
Also in California, a 2018 Lineweaver case explained the concept of earned commissions, blurring the usual requirement of "performance" required to earn commissions. In Lineweaver v. Simm Associates, Inc., 2018 Cal. App. LEXIS 1307, "the court rejected the employer’s arguments that commissions were not earned because the employee failed to pay his debts to Simm. The court in part held: ‘…[I]t is therefore not payment to the financial institutions or lenders that affects the parties’ rights to the commissions from Lenders under the sales contract….’ The court further noted that ‘…Lineweaver had already performed (he had done all that had been promised of him under the contracts with respect to future rentals’ fixed and unchangeable by their terms).