Navigating the New EU Directive on Pay Transparency

Pay transparency regulations are sweeping the globe, with many regions raising the stakes even further to help close gaps in the workplace. In New York City, for example, job seekers can now find out what some of the top companies in the world are paying for certain roles. California will introduce this year similar legislation that requires employers with 15 or more employees to include pay scales in job postings. The UK’s government launched a pay transparency pilot scheme that encourages organizations to display salaries in all of their job ads. Meanwhile, Japan requires companies to increase disclosure of their gender wage gap by listing it on company websites and annual securities reports.

While some European Union (EU) countries, like France, have already codified gender pay calculation and disclosure into law (the Penicaud Index), others, such as Finland, have not. Therefore, to align EU member countries to a common set of standards and improve the impact of existing regulations, in December 2022 the EU’s governing body, the European Commission, confirmed an agreement between the European Parliament and EU regarding pay transparency. This has been approved by Parliament as of March 2023, and awaits formal approval by the council before being signed into law and published in the EU Official Journal. Once published, the laws will come into effect in twenty days. Member states will then have up to three years to build the new elements of the directive into their legislation although there are some suggestions that national political timetables might force/ encourage some countries to act sooner than this.

The intention of the agreement is to solidify the principle of equal pay for equal work through enhanced transparency and enforcement. The focus of the incoming regulations is on the pay differences between men and women.

Taking a broader view, the Pay Transparency Directive aligns with another signature regulation the EU has recently passed: the Corporate Sustainability Reporting Directive (CSRD). Set to be finalized in June 2023, this directive will require companies to disclose the percentage gap in pay between men and women, in addition to the total compensation ratio of the highest paid individual to the average total compensation for all employees.

“The pay transparency directive will nicely complement the CSRD directive and help companies ‘walk the talk’ when it comes to pay equity,” says Frederique Lange, Aon’s head of environmental, social and governance (ESG) advisory for EMEA. “Board members, labor unions, employees and investors are increasingly scrutinizing and tracking pay-related KPIs. This reinforces that pay and the surrounding topics of equity and transparency are no longer nice-to-haves, but key pre-requisites for an ESG and DE&I [diversity, equity and inclusion] strategy that will last in the long term.”

The EU directive contains many details for companies to consider but, overall, the best course of action is to act now. Organizations that plan for change will experience numerous benefits that extend beyond the regulatory compliance, such as career planning, employee attraction and retention, advancing ESG initiatives and building trust.

Here’s what to expect and how to best prepare.

EU Directive Requirements on Pay Transparency

When the directive comes into effect, employers with at least 100 employees will need to publish information on the pay gap between female and male workers. In the first stage, employers with at least 250 employees will report every year, and employers with between 150 and 249 employees will report every three years. Where a gender pay gap of 5 percent or above exists, employers will also be required to work with their employee representatives/works councils to conduct a deeper analysis and develop a corrective action plan. Additional key requirements include:

• Job applicants will have the right to receive information on the initial pay level/range for any advertised position and employers cannot ask about previous or current pay.
• Employers cannot prohibit employees from disclosing their pay details (e.g., pay secrecy/confidentiality clauses).
• Employers must share information on how pay is set, progressed and managed. They similarly are required to disclose details on their promotion and progression criteria. Any pay differences must be related to objective criteria (e.g. performance/market premium), not related to gender.
• Tools to compare and assess pay levels must be based on gender-neutral criteria and include gender-neutral job evaluation/classification systems. This could represent a significant change for any employers who do not have a job architecture underpinned by a recognized analytical job evaluation methodology.
• Although most countries already have pay equity mechanisms in place, they will have to certify they meet the terms of the directive and as a result additional changes are anticipated. For those without pay equity programs, this will be a substantial change.

Your Pay Transparency Checklist

While two to three years may sound like a long time to implement change, when you consider the nature and extent of the change for some organizations, it’s imperative to act now.

Stay ahead of the curve by assessing your existing practices against the upcoming regulations. This checklist outlines some of the main questions to ask to ensure your firm is headed in the right direction.

✔ Is your approach to levels/grades robust, non-discriminatory and underpinned by an analytical job evaluation and classification methodology?
Use gender-neutral tools and criteria to compare pay levels, including gender-neutral job evaluation and classification systems. Simply matching roles into a hierarchy based on salary levels, reporting lines or a pay benchmarking report is not enough. You must use an approach that delivers a clear understanding and identification of equal work across the breadth of the entire business.

✔ Do you have clear guidance to support reward and promotion decisions that you’d be comfortable sharing with employees?
Employers are increasingly moving away from pay and promotion decisions that are based purely on the line managers’ and executive leaders’ discretion due to the potential risk for bias. While many firms have introduced a guidance to help inform manager decisions, these documents will need to be available to employees in the future. For example, what factors are considered in determining pay and pay progression and how final pay and promotion decisions are made across the organization?

✔ What is your current gender pay gap and how can you improve it before the new directive comes into play?
The new requirement to conduct a joint pay assessment and develop an action plan if a gender pay gap exists of more than 5 percent represents a significant commitment to pay equity in the EU. It’s important to remember that you can have a strong approach to equal pay for equal work, yet still have a sizeable gender pay gap because of the composition of your current workforce. You may need to take some time to consider your recruitment practices and gender representation before making significant improvements.

✔ If you use performance management as a rationale for pay differentiation, how robust and consistent is your current approach?
Any pay differences must be related to objective criteria such as job performance. If there is a sustained and demonstrable performance difference between two individuals, then a pay difference may be defensible. However, if you choose to take this route, you will need to ensure that your performance management approach is robust, with a documented set of outcomes and consistency across the business that is applied through trained managers. Now is a good time to review your existing performance management process to ensure consistency is in place before it is called into action.

✔ Do you have enough market data to defend potential differences based on market premiums?
In addition to performance, another common justification used by employers to explain why two roles on the same level are paid differently is market premiums. While, in most cases, this is a perfectly valid factor to inform pay level, it does require the employer to be able to prove the existence of these premiums through market data. Consider whether you have sufficient confidence in your data and if it is as up-to-date as possible. It should serve as a central component of your reward decision-making and, as a result, both HR and business leaders need to be confident in the data and how it is being used.

✔ Could more transparency on pay for advertised roles raise concerns for existing employees?
Aon’s employee reward team in the UK recently delivered a project for a client who already published salary levels for every role they advertised in the market. While this was a significant step toward transparency, it did bring other issues to the forefront. Existing employees described it as the biggest source of dissatisfaction and disengagement, as they saw roles they perceived to be similar to their own being advertised at higher salary levels. They felt as if they were being punished for their loyalty. As disclosure of pay ranges in job adverts becomes more universal across the EU, employers will need to consider the impact it will have on existing employees and ensure that robust and transparent job architecture and reward strategies are in place. We anticipate addressing this concern will be particularly challenging in a high-inflation environment, where salaries for candidates are climbing quickly, yet internal annual pay increase budgets are struggling to keep up.

Acting Now will Result in Many Benefits for Your Organization

Many of the changes that employers will be required to deliver may feel like they are going to be complex and time-consuming. They may even need to be part of a wider cultural change program and should align with the organization’s ESG and DE&I strategy.

Expected benefits include:

• Robust, transparent levels and grades across the business will enable clearer career planning.
• Greater levels of transparency around career progression and levels of work across the business will help reduce turnover levels as employees can see how their careers can develop and progress within the business.
• Managers and HR leaders will have a clear framework and toolkit to guide their decision-making. As a result, improved employee attraction, retention and engagement through transparency and consistency of approach will inspire trust — one of the most pivotal retention tools in today’s market. This is especially the case when salaries are struggling to keep pace with inflation and employers are challenged to retain key talent.
• Greater alignment and integration with the organization’s DE&I policies, as well as their broader ESG strategy and vision.

Next Steps for Navigating the New Directive on Pay Transparency

Employers in the EU have time to thoughtfully approach these changes for optimal impact. The first step will be to ensure leadership is briefed and fully understands the incoming directive so they can assess current practices against the requirements and conduct an analysis to gauge readiness. Most employers will need to develop a prioritized and integrated action plan to deliver the necessary changes over the next few years. Companies should not treat these updates as surface-level quick fixes. Instead, pay transparency should be positioned within a company’s broader ESG and DE&I strategies, which will ultimately help justify transformational decisions that take time to roll out and adopt.

Throughout the process, remember to look for opportunities to drive more transparency by involving employees in the design and development of your plans where appropriate.

Most of all, take advantage of this time and use this as an opportunity to be proactive and enhance your reputation among existing and potential employees by acting as a visible leader in driving the required change.

For more information on how your firm can prepare for regional regulations related to pay transparency, please contact one of our experts at [email protected].