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The payment of commission as remuneration for services rendered or products sold is a common way to reward sales people. Payments often will be calculated on the basis of a percentage of the goods sold. This is a way for firms to solve the principal–agent problem, by attempting to realign employees' interests with those of the firm.
One of the most common means of attempting to align principal and agent interests is to design a contract with incentives that track agent performance. The principal–agent theory provides an explanation for the dissimilarities across the marketing firms in the types of compensation plans used by them, such as fixed salary, straight commission or a combination of both fixed salary and straight commissions.
Although many types of commission systems exist, a common form is known as on-target earnings, where commission rates are based on the achievement of specific targets that have been agreed upon between management and the salesperson. Commissions are intended to create a strong incentive for employees to invest maximum effort into their work.
Note that often a firm embracing a commission structure may not involve employees, but may solely establish themselves using independent contractors. An example of this in the USA could be a real estate agent.
Reward in the form of commission alone with no pay or salary is in the USA known as straight commission. Reward may also take the form of commission plus a fixed salary. Industries where commission is commonly paid include car sales, property sales, insurance broking and many other sales jobs.
In 2011, California Governor Jerry Brown signed into law AB 1396 amending the California Labor Code requiring all employers who pay commissions to enter into written contracts with their employees regarding how commissions will be earned, computed and paid. The new law, effective on 1 January 2013, further states that commission excludes "short-term productivity bonuses such as those paid to retail clerks" as well as "bonus and profit-sharing plans, unless there has been an offer by the employer to pay a fixed percentage of sales or profits as compensation for work to be performed."
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