In the last three months of 1993, the number of those covered by profit-related pay (PRP) schemes grew by 28 per cent to just over 1.5 million.
The attractions of PRP are obvious. Although the Chancellor Kenneth Clarke stamped out some perceived abuses associated with the schemes, he did not touch the tax relief available on PRP.
It continues to be tax free up to the lower of 20 per cent of pay or pounds 4,000; this means that those with a marginal income tax rate of 25 per cent could save up to pounds 1,000 by receiving a part of their pay as PRP, and a higher-rate taxpayer could save up to pounds 1,600.
In 1984 Professor Martin Weitzman, a US economist, argued that if an element of employees' pay is variable it will help to drive down unemployment and expand production. Employees will feel the financial effect of both good and bad years and therefore become more focused on a company's profitability.
The idea was enthusiastically received - the Wall Street Journal hailed it as 'the best idea since Keynes' - and within three years, in 1987, it was introduced into the UK as PRP.
The concept has since become hugely successful over here, as companies such as Boots, Halifax Building Society and John Lewis Partnership have either persuaded their employees to swap a proportion of their basic pay into PRP, or delivered a pay rise using PRP, or used the scheme as a bonus.
By exploiting the tax relief available on PRP, companies can provide substantial salary increases to their employees.
For example, someone whose current pay is pounds 20,000 and who agrees to replace pounds 4,000 with PRP could receive an annual increase in net pay of pounds 1,000 or 7 per cent, which is equivalent to a pay rise of 7.7 per cent. These figures are too interesting to ignore in these current, low-inflation times.
The continued support given by the Government to the concept of PRP and the help the Inland Revenue gives accountants in designing schemes means that PRP is very much alive and kicking. However, thought needs to be given to how PRP is integrated into employee reward strategies.
The accountants have made no secret of the fact that PRP has generated a steady flow of work over the past few years. In fact, the accountants have practised what they preach. Arthur Andersen was the first firm of accountants to introduce a PRP scheme for its own staff in September 1991.
PRP has since been a runaway success, both with its employees and with its clients. Arthur Andersen employees were asked to swap part of their salaries into PRP. Each month a proportion of PRP is paid 'on account', with a final payment of the outstanding PRP earned during the year after the firm's year end.
Faith Jenner, director of personnel at Arthur Andersen, said: 'We had a tremendous take-up from employees when the scheme was introduced - more than 98 per cent decided to join the scheme. We are now into our third year of running the scheme and employees are able to enjoy the benefits of the scheme both on a month-by- month basis and in their final PRP payment, which is paid just in time for Christmas.'
Since then the firm has introduced hundreds of PRP schemes into companies, ranging from those employing thousands of employees to small family businesses.
Brian Friedman is a partner in the Employee Benefits practice at Arthur Andersen.Reuse content