Disclaimer: This article was written few years ago and may no longer be relevant as software engineering has changed a lot in the last few years. This is what may be more relevant now: Future of Software Engineering - Gaurav ChandakSo you interviewed at a company and got an offer letter. You see that you got a package of 'x' LPA CTC. Since you have already seen the CTC vs in-hand salary memes, you want to understand what it actually means for you.
If you have any specific questions after going through the article, please feel free to ask in our community.
Let's try to understand the different things that you should know about your offer letter.
CTC (Cost to Company)
CTC (Cost to Company) means the total cost that the company will spend on you per year. This includes all the monetary and non-monetary compensation that you get as an employee.
The three major components of a CTC are:
- Cash component (Base Salary, Joining Bonus, Performance Bonus, etc)
- Stock component (Stocks, ESOPs, Equity, etc)
- Perks and Benefits (Health Insurance, Fitness Reimbursement, Free Food, etc)
Let's look at these components and the various breakups in each of them.
Cash Component
Cash Component is the compensation that you receive in your bank account directly. This is the component that matters to most people as this is what you spend and save on a regular basis.
It includes:
- Base Salary (Fixed Component)
- Joining Bonus (and Retention Bonus)
- Performance Bonus (Variable Component)
Let's look at each of them.
Base Salary
Base Salary, popularly known as In-hand salary is the main part of your entire CTC. It is the fixed component and is the money that you get every month in your bank account.
The actual money that you get is generally much lower than the actual monthly base salary. It is because the company pays you after deducting the tax (TDS or Tax Deducted at Source). This is the case with all forms of monetary compensation.
People generally think that the company is cheating them by giving them less money than promised but that is not at all true. If the company had not deducted the tax amount then you would have to anyway pay that tax to the income tax department after the financial year is over.
To ensure that you have to pay less tax, the government allows the company to divide your base salary into multiple components where many of those components are provided as non-taxable allowances.
The major components of a base salary are:
- Basic Salary: This is the taxable part of the base salary
- Allowances: These are wholly or partially non-taxable
- House Rent Allowance (HRA)
- Leave Travel Allowance (LTA)
- Employee Provident Fund (EPF): Added to your pension account.
- Gratuity: Paid after completing 5 years in the company
- Other Allowances
Apart from allowances, there are other ways to save taxes. You can Google or consult a CA to understand more about it.
You can read more about it and calculate how much tax you will pay through ClearTax.
The base salary that you get after removing the taxes and the other deductibles like PF/EPF is known as the take-home salary.
The base salary is also the salary that you will get a hike on during appraisal every year. During negotiation, many companies try to give more bonuses, stocks, or other benefits instead of increasing base salary. Understand the power of compounding and try to get a better base salary.
Joining Bonus
Joining Bonus (or Sign-on bonus) is the bonus that the company pays you when you join the company. It is generally around 10% of your CTC.
Understand that it will not be paid every year. It is mostly used to stuff the CTC to show that the package is very good.
Some companies also offer a relocation bonus when you are changing cities. It is either paid directly or reimbursed on submitting receipts depending on what is mentioned in the offer letter.
Some companies also offer a retention bonus which is a fixed amount paid at the end of every year and is generally equal to the joining bonus.
All of these components are fully or partially recoverable by the company. If you leave the company within 1 or 2 years of joining then you may have to pay back the entire amount to the company.
Try not to spend it before the end of the recovery period.
Performance Bonus
Performance Bonus, also known as, Annual Bonus or Annual Incentive Plan (AIP) is the variable component of your CTC. It is generally a percentage of your base salary (10-20% in most companies).
Performance bonus is variable as in the money that you will get is not fixed and will depend on your performance during the appraisal cycle. Most high performers get closer to the maximum alloted bonus while the bad performers get almost 0 bonus.
Most of the people get close to half of the max alloted performance bonus. This number is known as the target performance bonus in most companies.
Stock Component
Stock Component is also a significant part of the CTC at most companies. This component contains company shares, equity, ESOPs (Employee Stock Ownership Plan), or RSUs (Restricted Stock Units) depending on whether the company is listed in the stock market or not.
The stocks are generally not provided when you join. They have a vesting period usually 4-5 years. Generally, the first year is a cliff which means that you get your first set of stocks only after completing a year at the company. This is followed by stocks vesting every month or every quarter in equal amounts.
Suppose you get 48 stock units with a vesting period of 4 years. Based on the vesting schedule of most companies, 12 stock units will get after 1st year and rest 36 stock units vesting every month/quarter for the next 36 months (3 years).
The vesting schedule ensures that you do not leave the company early as you may lose out on a lot of unvested stocks. Since the stock component is provided only at the beginning similar to the joining bonus, few companies grant stock refreshers every year during appraisal based on the performance of the employees.
For public companies, you can generally sell the shares after vesting. For private companies, you get stock options instead of actual shares and will have to wait for a liquidation event (Acquisition, IPO, Company buyback, etc). There are certain terms surrounding this and should generally be mentioned in your offer letter.
The companies provide the stock component so that your compensation partly depends on the performance of the company. This ensures that you give your best since you've skin in the game.
Understand that this compensation is highly variable depending on the company performance and the overall market.
Between 2016 to 2019, Amazon, Adobe, and Microsoft stock prices became 2x-3x which made the employees get a lot more than what they were initially offered. Meanwhile, during COVID-19, many stocks went down as the market was bad.
Many startup stocks went 10x to 100x within a few years. At the same time, many startups were shut down and the stock value went to 0.
This component is a high risk-high reward component so it would be a good idea to research the future prospects of the company while considering the offer. Also, there are high tax risks with ESOPs, make sure to go through ClearTax's ESOP taxation guide for more details.
Perks and Benefits
Apart from the cash component and the stock component, companies provide different perks and benefits to its employees for their well-being.
Common Perks and Benefits:
- Insurance: Many companies provide health insurance to employees and their family members.
- Fitness Reimbursement: Few companies allot some amount every year which you can use to buy fitness equipment, gym memberships, etc
- Medical Reimbursement
- Meal Allowance or Free Food
- Education Allowance
- Employee Stock Purchase Plan (ESPP)
Note that many companies include insurance costs as part of the base salary.
It would be a good idea to properly read the terms and conditions around these things to make sure that you are actually going to get the benefits. If it is not mentioned, ask the HR to explain more about it.
Work-Related Details
Designation
An important thing to note is the designation/role/title/level that you are assigned. You should understand the different level details at that company. You can check out more details about different levels and the compensation at each level across companies at our level and salary comparison tool.
Working Days and Working Hours
Most companies expect you to work 8-9 hours daily for 5-6 days a week. Some companies have flexible working hours while most of them have fixed working hours calculated based on when you come and go.
Few companies also allow work-from-home (WFH).
You do not want to get burned-out in a few months of working at a company so you should ideally take these things into consideration while deciding whether to join a company.
Leaves
You cannot work 5-6 days every week for the entire year without taking any leaves. Companies generally provide different types of leaves that you can take based on the situation. Most of the leaves need pre-approval from the manager. The most common leaves ones are:
- Sick Leave
- Casual Leave
- Parental Leave (Maternity/Paternity)
- Grievance Leave
- Paid Leave: These are leaves that you can take casually. Unused leaves can be encashed when you leave the company.
Few companies also provide unlimited leaves where the company allows you to take as many leaves as you want. The company is basically trusting you not to abuse it.
Termination and Notice Period
Most companies have a probation period at the beginning of your employment where the company can terminate you without any notice, i.e., ask you to leave on the same day itself. In most cases, you can also leave without any notice during the probation period.
In all other cases, a notice period of 30-90 days (as mentioned in the offer letter) is required. It means that if you resign or the company decides to fire you, your employment will end only after the notice period ends. If you or the company decides to make the termination before the end of the notice period, the employee will either receive or will have to pay the salary proportional to that many days depending on who decided to breach the notice period.
NDA, Non-Compete, etc
Almost all companies will make you sign a Non-Disclosure Agreement (NDA), a Non-Compete Agreement, and other documents as part of the offer letter. This is done to protect their intellectual properties.
Conclusion
I hope that you have a fairly better idea now about the different things in your offer letter.
This article should not be considered legal advice. It is based on my observations on multiple offer letters and my experience at my past jobs. You should talk to a CA or lawyer if you want to understand the legal intricacies of your offer letter.
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