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Don't Set Your Employees Up For Financial Ruin

By Doug and Polly White of Whitestone Partners

The worst thing that an employer can do to an employee is to pay him or her significantly more than a free-market wage. What? The worst thing you can do is to pay someone too much? We can see people's hands going up volunteering to receive that type of harsh treatment. But, the results are often devastating for the employee.
 
We'll define a free-market wage as the amount of money that the employee could reasonably expect to earn if he or she lost his or her current job and had to find work. It is what the free market would pay a person with the education, experience and skill set of the employee in question.
 
We are talking about situations where employees are paid 50% or more than they could get elsewhere. If you think that doesn't happen, guess again. We're aware of a company that has to pay low-skilled employees working on a government job $12.50 per hour, while their other employees, doing exactly the same work for private sector customers, are paid $8.00 per hour. The reason? The government requires that the workers on its jobs be paid on a union wage scale. If the workers making $12.50 per hour were to lose these jobs, could they find jobs paying as much? Not likely. They are making 56% more than the free-market wage.
 
When an employee is significantly overpaid, several things happen. In most cases, the employee does not recognize that they are overpaid. It's human nature. Most of us believe that we are worth more than we are currently being paid. At most, we think that we are paid fairly. It is a very unusual person who recognizes that his or her compensation is well above what he or she could earn elsewhere and adjusts his or her lifestyle to compensate.
 
The second thing that happens is that the overcompensated employee, not recognizing the precariousness of his or her situation, builds a lifestyle that cannot be sustained by less than their current income. For most, even if they know they can't replace their income, they behave as though they can. People stretch to buy the biggest house for which the bank will approve a loan. They buy new cars with debt and leverage themselves to the hilt. Spending on "extras" chews up cash, savings are minimal. Often it takes the current level of income just to service the debt.
 
Then, the unthinkable happens. The goose that laid the golden eggs is gone. It could be a plant closing, a layoff or perhaps an employer who finally realized he or she could replace the overpaid employee at a substantial savings to the business. For example, a company that operated call centers wanted to be on Fortune magazine's list of best places to work in America. To achieve this, they offered above-market-rate compensation, extremely generous benefits, three to five weeks of vacation and numerous other perquisites such as fun days.
 
The company made Fortune's list. Then, the economy went south and things got tight. A bright, young analyst figured out that the company could save millions by outsourcing its expensive call center operations? The party was over. Paying significantly above market rates to employees who cannot justify the premium through increased output is not only irresponsible; it's an abrogation of the company's fiduciary responsibility to its shareholders.
 
Most people who find themselves out of work will try to replace the income they have just lost. They believe they can because they think they are worth what they were making. Refusal to accept lower paying jobs lengthens unemployment and makes matters worse. They try to hang on to the lifestyle they built, not realizing that they will never again attain their former level of income. We've seen cars repossessed and foreclosures on homes. Marriages have broken up under the stress. In one particularly sad case, a person ended up sleeping in his car.
 
Of course, blue-collar workers are not the only ones subject to this phenomenon. Many white-collar workers and elite athletes have met the same fate, having worked very hard for years to make it to the pinnacle of their sport? Too many elite athletes proceed to build a lifestyle that requires their current level of income to sustain. The minimum salary of an NFL football player is currently about $375,000 per year.
 
Unfortunately, the average number of seasons that a player spends in the NFL is three and one-half and most have no prospect of making that kind of money once their playing days come to an end. Too often, when the ride is over for these elite athletes, their worlds come crashing down and they find themselves destitute.
 
The shortened list of former star athletes who met with financial ruin includes household names such as Mike Tyson, Scottie Pippen, Lawrence Taylor, Dorothy Hamill, Rollie Fingers, Bjorn Borg and Johnny Unitas.
 
It may sound odd, but in our years of experience, we have found that the most unfair thing an employer can do is to pay an employee significantly more than a free-market wage. Doing so sets the employee up for financial ruin when the gravy train comes to an end. We've seen it time and time again.
 
(Doug and Polly White are principals at Whitestone Partners, a management-consulting firm that helps small businesses build the infrastructure they need to grow profitably. They are also co-authors of Let Go to GROW, which explains how entrepreneurs can avoid the most common pitfalls when growing a business. It is available at www.WhitestonePartnersInc.com .)

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