Can Performance Pay Help States and Cities Hang onto the Best and Brightest?

It’s a simple truth: States, counties and cities are not going to be able to keep up with the private sector in terms of compensation. That means, in turn, that retention is always going to be a problem when their best and brightest employees are seduced by bigger paychecks that are available in corporate America.

One approach that holds some promise is performance pay, which is commonplace in companies. Though pay incentives for exceptional work are not a new idea in the public sector, the model is rare. The far more common alternative is basing an employee’s pay exclusively on longevity, “which is consistent, but it doesn’t change anyone’s behavior,” says David Kitchen, human resources manager for Lehi, Utah.

There has been growing interest in adopting performance pay. Cara Woodson Welch, executive director of the Public Sector HR Association says that anecdotally she has been “hearing more people talking about it recently.” She adds that she’s also seen a number of questions come up about the topic on the association’s online forum.

“Given the labor market and retention problems and recruitment issues, there has been more interest in performance pay,” confirms Juan Williams, commissioner of the Department of Human Resources in Tennessee, a pioneering state in the use of compensation that takes performance into account. “You can’t continue to operate the way you have and expect different outcomes.”

Performance pay is a revival of an idea that had been dismissed in the past “as a failed experiment,” says Leslie Scott, executive director of the National Association of State Personnel Executives. For one thing, evaluations upon which pay was based sometimes resulted in accusations of bias and favoritism, which left employees feeling bitter. Additionally, there have been concerns that performance pay creates competition among workers, which can damage a team-based environment.  

Unions often make this argument. As one leader of a teacher’s union told us, “Our teachers want to be in a pay system that thrives on collaboration and working with one another. They don’t want to be in a system that encourages competition. They want to be paid for their experience.”

Such objections have impeded the use of performance pay but, “I get the sense that better tools and technology for fairer performance evaluations increases the likelihood of [the approach’s] effectiveness,” says Scott.

Additionally, workforce shortages and high turnover rates have fostered an environment conducive to its use. “It’s good for retention because you can reward the people you want to retain—the high performers,” she says.

Louisiana is a state that already has a solid way to provide additional compensation to outstanding employees, by providing lump-sum payments for high performers. Employees can receive up to $2,500 in a year, or an amount no greater than 3% of their base pay. If that doesn’t seem like much of an incentive, consider this: The lowest level jobs in Louisiana state government start at $8 an hour or $16,640 a year. “So, an additional $500 can help that person a lot,” says Byron Decoteau, the state’s civil service director.

Louisiana’s performance evaluation system divides employees into three tiers: those who need improvement or are unsuccessful; people who are successful; and those who are exceptional. Only employees rated as exceptional are eligible for the lump-sum payment. These evaluations are based on their supervisor’s judgement of how they perform compared to goals set out for them. There’s a second level review, from someone higher up in the organization, in order to reduce subjectivity.

Another factor that can diminish the benefits of performance pay is a compulsion among some supervisors to rate nearly everyone at the top level to stay popular with staff. This trap has been avoided in Louisiana, as only 10% of employees can be rated as exceptional.

While Louisiana only uses performance pay in the form of one-time payments, Tennessee has long used the device more broadly to establish base pay levels. This effort began a little over a decade ago when the Tennessee Excellence, Accountability and Management Act was put into law, which placed a big emphasis on creating performance standards aligned with the governor’s priorities. Performance is based on the management formula SMART goals, which stands for specific, measurable, achievable, relevant and time sensitive.

This effort has evolved and in 2021-2022, the state began a four-year effort to improve its performance management plan, introducing, for example, evaluations that come not just from supervisors but also from peers and people who report to those being evaluated.

All of this is automated, and employees are evaluated in one of five categories: unacceptable, needs improvement, meets expectations, exceeds expectations and exceptional. Employees who meet expectations receive an increase in base salary; those who exceeded that get more and people rated as exceptional get the most. The percentages vary from year to year depending on how many people are in each of the categories and the amount of money available in the budget.

Tennessee has been able to avoid accusations of unfairness by ensuring that supervisors meet with direct reports four times a year. During these meeting, supervisors give employees the feedback they need to avoid feeling blindsided when it comes time to establish their next year’s pay level.

Says Williams, “There’ a commitment to it. We want our employees to perform at the highest level and performance-based pay has been a mechanism to accomplish that. We’ve been able to retain higher performers because we’re rewarding them. With this effort, we are more similar to the private sector firms with which we compete for jobs because we reward on performance and not just longevity.”

While performance pay can be used for almost any employee, it appears to be gaining traction particularly as a device to retain teachers, who are in very short supply in most cities and states.

Fueled in part by a desire to effectively utilize the state’s huge anticipated $1 billion surplus in the current fiscal year, the Oklahoma Senate has come out with a plan that would provide bonuses capped at 5% of pay and given to no more than the most outstanding 10% of teachers.

The specifics haven’t been worked out, according to Curtis Shelton, policy and research fellow for the Oklahoma Council of Public Affairs. But there’s a reasonable expectation, he says, that it would be based on evaluations that are currently in place for teachers—in part on peer and administrative evaluations, as well as several other non-performance-based criteria like participation in extra-curricular activities. And there is real support for the approach in the executive branch, as both the governor and the state’s elected superintendent of schools made rising student test scores a central part of their platforms in the last election.

Similarly, the North Carolina General Assembly is considering creating a pilot program in between five and 15 geographically and demographically diverse districts that could introduce a new compensation plan that would go beyond rewarding teachers solely for years of experience. Under consideration are a portfolio of evidence points including growth in student proficiency and evaluations from principals, assistant principals and peer teachers.

Says Van Dempsey, chair of the Professional Educator and Preparation Standards Commission, which provides oversight and recommendations about all aspects of education, “No single evaluation tool should be used and no teacher should ever be subjected to the judgement of one person.”

The pilot program, if passed, will give the state the opportunity to assess approaches to this work and the weighting of the various tools for evaluation. 

"We’re in a state of crisis in education in North Carolina now with great difficulties attracting and retaining teachers,” says Dempsey. “Compensation isn't going to solve these problems by itself, but we believe that this new structure has a great amount of potential."

Updated April 14, 2023: A previous version of this story suggested that a person making $16,640 a year in Louisiana could receive an additional $2,500 under the state's compensation program. That was unintentionally misleading as state employees can only receive additional compensation no greater than 3% of their base pay, which in the example given equals $499.20.