What's in a Software Engineer's Compensation Package?
A software engineer’s salary package can include many different, confusing parts.
They throw a bunch of numbers and jargon at us: ESPP, RSUs, vesting, target bonuses, among many others.
Sometimes, we just want the recruiter to tell us how much is going to be in our bank account at the end of the month so we can decide how much to spend on rent.
Sadly, our compensation is not that simple, but it’s important for evaluating and comparing offers.
Let’s begin with the simplest component of our compensation package: our base salary.
1. Base Salary
This number is what most employees use to budget their day-to-day living expenses.
It is considered the “base” salary because other components of the salary package depend on this number.
Simply put, our base salary is what will be going into our paycheck every month or every two weeks.
Suppose our base salary is $120K. Our paycheck will be either $10K monthly or $5K biweekly, depending on our employer’s pay period.
2. Target Bonus
Our bonus is simply some amount of money that will be given to us once or twice a year, depending on the employer’s bonus policy.
It will always come in the form of a percentage, usually between 10% and 20%. This is a percentage of our base salary. That means a higher base salary will yield a higher bonus at the end of the year.
Using Bonuses as Incentive
That being said, we only receive bonuses when we meet or exceed performance expectations. At the end of the day, this is all up to our manager or team lead. This means that bonuses aren’t guaranteed, but rather act as incentives for us to put in a little more effort into our work.
Suppose our base salary is $120K and we are given a 10% target bonus. This means that if we perform decently, we should get that extra $12K as a bonus. This can come as $12K once a year or $6K every 6 months. Either way, this money is just a nice cherry on top of the base salary. we could use it for a nice vacation with the family, buy some nice gifts, or invest in that nice retirement we’ll have.
Based on our performance, there’s a chance we can make more or even less than our target bonus.
All of this is under the assumption that the company is performing well. If the company is declining rapidly, that bonus may also be declining. If the company ends up having a great year, our bonus check could be huge!
3. RSUs (Restricted Stock Units)
There’s a good chance our compensation package will include RSUs.
This means that our company is giving us free shares of company stock.
Generally, a company will offer n number of shares at some pricepoint over the course of x years.
Suppose we are offered 1,000 RSUs. This means we will get 1,000 company shares upon hire. If the share price at the time is $100, it doesn’t mean we automatically get $100K, as great as that sounds.
This can be explained by the “restricted” in Restricted Stock Units. The restriction lies in the vesting period.
What is Vesting?
This vesting period is the amount of time we have to wait as an employee before we can claim that stock.
Suppose we receive our shares over the course of 5 years, which would be 20% of the total number of shares each year. Every year we work, 20% of our RSU shares are “vested”. We have full ownership. We can do whatever we’d like with them (sell them, let them sit, etc.).
One of the great things about RSUs is that the price will always be what’s in our contract.
When we join a company, the RSUs might be worth $100. By the time we vest, the price of those shares could have skyrocketed. Like bonuses, this provides incentive for employees to work towards profitability.
Just remember that these RSU shares are considered income, so if we decide to sell above our original purchase price in the contract, we will need to pay additional taxes.
Lastly, if we leave the company, we will lose all our unvested shares.
Using RSUs as Incentive
These RSU shares can be used as incentives as well, just like those target bonuses.
One common way for RSUs to be used as incentives is for entire divisions or executive-level employees. These employees may be offered 10,000 RSUs, for example, if they reach a certain level of profitability that year.
Similarly, a company may offer individual employees 50,000 RSUs if they stay at the company for at least 5 years. If they leave before that, they will lose all those shares.
RSUs can get a little confusing; but at the end of the day, it’s free shares in a company that we will help grow in the following years.
4. ESPP (Employee Stock Purchase Plan)
Just like RSUs, at the end of the day, we will own shares of our company stock with the ESPP.
This plan allows us to purchase publicly-traded company stock at a 10% to 15% discount from its market price. So unlike the RSUs, we will pay for these stocks using our own money.
If we decide to opt into this plan, we will pay for these discounted stocks through regular payroll deductions. Essentially, our monthly or biweekly paycheck will be a little smaller, but we will be contributing to our company’s ESPP through those deductions.
Every 6 months, our company will use the money deducted so far (ESPP contributions) to buy us company stocks discounted between 10% and 15%.
The method a company uses to determine the price that we buy their stock depends on company policy. But generally, they will take either the stock price at the beginning of the 6 months or at the end of the 6 months, whichever is lower. The company will then discount 10% to 15% from that price.
At this point, we will own the stock, allowing us to do whatever we please with it.
Using ESPP as Incentive
The great thing about the ESPP is that we are guaranteed at least 10% to 15% in capital gains.
If the stock price is rising, we’ll make amazing returns every period.
If the stock price is falling, we’ll make at least 10% to 15% in returns every 6 months if we sell right away.
Many employees max out their contributions to get those returns every 6 months.
When we buy company stock in this way, it provides us with ownership in the company. This tends to build loyalty towards the company.