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- A merit increase is a permanent, performance-based raise to base salary, separate from a bonus, a cost-of-living adjustment, or a market correction. It compounds quietly, becoming the base that all future percentage raises are calculated from.
- US merit budgets average 3.2% for 2026 and total salary increase budgets 3.5%, the third flat year running after the 2021 to 2023 surge. With inflation at 3.4% in the year to July 2026, an average raise is very slightly negative in real terms.
- The math is simple: current salary times the merit percentage. The judgement is who beats the average, since top performers typically take 4% to 5.5% while the bottom tier often gets nothing. A flat percentage for everyone is not a merit program.
- Merit pay works only when the review behind it is fair and consistent. Set criteria before the cycle opens, use a matrix that reads performance against position in range, and calibrate ratings across managers so the same score means the same thing.
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Is 3.2% a good raise?
That is the average US merit budget for 2026, and with inflation at 3.4%, it barely holds its value. A merit increase is a permanent, performance-based rise in base salary. What decides whether it retains anyone is how you split the pool.
We have helped over 300 global companies hire, pay, and manage more than 2,000 employees without setting up a local business entity, and we process over $20 million in payroll for them every month. Everything below comes from watching those merit cycles run.
What is a merit increase?
A merit increase is a permanent raise added to base salary for how an individual performed, not for inflation, tenure, or a change of job title. It normally follows an employee evaluation, where a manager rates someone against goals agreed at the start of the cycle.
The word that matters is permanent. A $2,000 bonus costs you $2,000 once. A $2,000 merit increase costs you that every year from now on, and it becomes the base for every future raise. That is why it is one of the most expensive decisions in the employee lifecycle.
How is a merit increase different from other raises?
A merit increase rewards individual performance. A cost-of-living adjustment tracks inflation, and a market adjustment corrects pay that has drifted below the going rate. All three raise base pay and can show up on the same payslip, but only merit is earned.
| Raise type | Based on | Who gets it | Added to base pay? |
|---|---|---|---|
| Merit increase | Individual performance | High and solid performers | Yes, permanent |
| Cost-of-living adjustment | Inflation | All or most employees | Yes, permanent |
| Market adjustment | External pay benchmarks | Roles that fell behind market | Yes, permanent |
| Bonus | Hitting a target or milestone | Varies by plan | No, one-time payout |
| Promotion increase | Moving to a bigger role | Employees who get promoted | Yes, permanent |
Keep these pools separate at budget time, because they come from different money and send very different signals.
What is the average merit increase in 2026?
US employers have set 2026 merit budgets at an average of 3.2%, and total salary increase budgets at 3.5% once promotions and market adjustments are folded in. Mercer surveyed more than 1,000 US organizations in late October 2025.
| Source | Merit budget | Total salary budget |
|---|---|---|
| Mercer | 3.2% | 3.5% |
| WTW (poll) | Not split out | 3.4% |
| Payscale | Not split out | 3.5% |
| Gallagher | Not split out | 3.2% to 3.3% |
This is the third straight year of flat budgets after the sharp jumps of 2021 to 2023, and a WTW poll found most employers holding 2026 essentially level with 2025.
What changed for 2026?
Three things moved between the mid-2025 projections most planning decks were built on and the final 2026 numbers.
- The merit figure came down: Early projections put 2026 merit at 3.3%; Mercer's final October read settled at 3.2%.
- Promotions absorbed the difference: The gap between the 3.2% merit budget and the 3.5% total budget is where promotion and market-correction money now sits.
- Expectations did not follow budgets down: SHRM reports employers holding increases steady on economic caution, while employees still anchor on the increases they saw in 2022.
If your planning deck still says 3.3%, refresh it before you brief managers.
Does a 3.2% raise keep up with inflation?
Not quite. US consumer prices rose 3.4% in the year to July 2026 according to the Bureau of Labor Statistics, so an employee on the 3.2% average ends the year slightly behind. Core inflation ran at 2.5%, so the squeeze sits mostly in energy and grocery bills.
The gap is small, but it is the arithmetic behind the reaction managers get in review meetings. An employee hears that 3.2% is in line with the market, then reads a 3.4% inflation headline. Calling that a pay cut is not unreasonable.
The answer is rarely a bigger pool. It is to say plainly that the average is an average, and to make sure the people you cannot afford to lose sit visibly above it.
What are top performers getting?
Employers concentrate the pool where retention is actually at risk. Strong performers typically get 4% to 5.5%, exceptional ratings can reach 7%, a meets-expectations rating lands at 2% to 3.5%, and the bottom tier often gets nothing.
| Performance rating | Typical merit increase | What the number signals |
|---|---|---|
| Exceptional | 5% to 7% | Retention priority, often paired with equity or a bonus |
| Exceeds expectations | 3.5% to 5.5% | Clear above-budget recognition |
| Meets expectations | 2% to 3.5% | The budget baseline for most of the team |
| Partially meets | 0% to 1.5% | A documented signal to improve |
| Below expectations | 0% | No increase, usually alongside a performance plan |
A flat 3.2% for everyone is not a merit program. It is a cost-of-living adjustment with extra paperwork.
Which industries pay the biggest increases?
High tech leads with merit budgets near 3.4%, while healthcare services and retail sit lowest at about 2.9%. Financial services, energy, and high tech all reach roughly 3.7% once promotions and market adjustments are counted.
| Industry | Merit budget | Total increase budget |
|---|---|---|
| High tech | 3.4% | 3.7% |
| Financial services | Above average | 3.7% |
| Energy | Above average | 3.7% |
| Healthcare services | 2.9% | 3.3% to 3.4% |
| Retail and wholesale | 2.9% | 3.3% to 3.4% |
| All industries | 3.2% | 3.5% |
Benchmark against your sector rather than the all-industry headline, because the gap widens fast once market corrections for hard-to-fill roles are layered on.
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We help growing companies benchmark merit budgets, run compliant payroll, and land every approved increase on the right pay date.
How do you calculate a merit increase?
Multiply current base salary by the merit percentage, then add the result back to the salary. Three steps:
- Annual raise = current salary times the merit increase percentage.
- New annual salary = current salary plus the annual raise.
- New monthly salary = new annual salary divided by 12.
Worked through, an employee on $80,000 receiving a 3.2% increase gains $2,560, taking them to $82,560, or about $6,880 a month before deductions.
Two costs get missed. Employer payroll taxes are calculated on base pay, so the real budget hit is bigger than the raise itself. The employee also feels net pay, not gross pay, so the headline percentage shrinks once payroll deductions come off.
The mistake we see most often is a pool signed off on gross salary alone, then reopened in month two when the loaded cost lands. Model it across the whole population before you commit.
What is a merit increase matrix?
A merit matrix sets each raise from two inputs: the performance rating, and the compa-ratio, which is where a salary sits against the midpoint of its range. Without it, two people with the same rating get the same percentage even when one is already paid above market.
| Performance rating | Below midpoint (under 90%) | At midpoint (90% to 110%) | Above midpoint (over 110%) |
|---|---|---|---|
| Exceptional | 6.0% | 5.0% | 3.5% |
| Exceeds expectations | 5.0% | 4.0% | 2.5% |
| Meets expectations | 3.5% | 3.0% | 2.0% |
| Partially meets | 1.5% | 1.0% | 0% |
| Below expectations | 0% | 0% | 0% |
Money moves fastest to strong performers who are underpaid, and slows for those already near the top of their range. Build your grid so the weighted average across your population lands on your actual budget, which is the core of compensation management.
Across the merit cycles we support, a company's first year on a matrix usually surfaces two or three people who have been quietly underpaid for years.
A matrix will not fix bad ratings, but it will stop good ratings being paid inconsistently, and it gives every manager a defensible answer when someone asks why their raise differs from a colleague's.
What determines the size of a merit increase?
Individual performance carries the most weight, but the final number is shaped by six things at once.
- Individual performance: the quality and impact of the work, measured against clear key performance indicators rather than a manager's gut feel.
- Company budget: the merit pool caps the total, no matter how strong the reviews are.
- Market rates: what competitors pay for the same role sets a floor you ignore at your peril.
- Position in range: someone at 85% of midpoint has room to move, someone at 115% does not.
- Role criticality: senior and hard-to-replace roles justify larger adjustments, especially where the cost per hire for a replacement runs high.
- Business priorities: the skills the company is betting on get protected first when budgets tighten, which is why merit planning belongs inside strategic workforce planning rather than beside it.
In practice the first three set the range, and the last three decide where inside it a person lands.
What are the alternatives to merit pay?
When base-pay budgets are flat, most companies reach for variable pay instead, because it rewards a good year without committing to it forever. Five common alternatives:
- Bonuses: one-time payouts against a target or milestone, from an annual performance bonus to 13th month pay.
- Profit-sharing: a slice of company profit that ties individual effort to the overall result.
- Equity: employee stock options and restricted stock, common at startups, usually released over a vesting period.
- Benefits and perks: upgrades to the employee benefits package and fringe benefits that raise real value without raising base pay.
- Recognition: awards and public acknowledgment, the cheapest lever on the list, with 30 practical employee recognition ideas to pick from.
None of these compound, which is exactly why finance likes them in a tight year.
What are the pros and cons of merit pay?
Merit pay works when the evaluation behind it is fair, consistent, and explained. It fails when it is subjective, secretive, or spread so thin that nobody feels rewarded.
| Advantage | Drawback |
|---|---|
| Ties pay to real contribution rather than tenure | Ratings can carry manager bias |
| Retains strong performers for less than replacing them costs | A heavy individual focus can undercut teamwork |
| Focuses the team on measurable goals | People who miss out often disengage |
| Feels fair when criteria are published in advance | Administratively heavy to run properly |
| Compounds, so it signals long-term commitment | Compounds, so mistakes are expensive to unwind |
Everything in the right-hand column is a process problem, not an argument against merit pay.
How do you run a fair merit increase process?
A fair process comes down to criteria set before the cycle opens and applied the same way on every team. Six steps keep it honest:
- Set performance metrics up front, so people know what they are measured against. A management by objectives structure works well here.
- Fix the merit budget, then decide how it splits between average and top performers before any manager sees a number.
- Evaluate with a mix of self, peer, and manager input to reduce single-rater bias. Distributed teams need this most, and EOR performance management covers running it across locations.
- Calibrate ratings across managers so a 4 out of 5 means the same thing on every team.
- Communicate each raise in person, then in writing, and make sure payroll administration reflects the new number on the right pay date.
- Review the outcome, checking whether engagement and retention actually moved.
Done consistently, merit pay stops being a source of resentment and becomes a retention tool. It gets harder the moment your team spans countries and you have to run payroll for a distributed team in several currencies while keeping every raise compliant.
What if the merit budget is flat?
A flat pool does not have to mean a flat outcome, but every extra point you give one person now comes out of someone else's raise. That trade-off has to be made deliberately rather than by default.
In our experience, flat-budget years are when the most avoidable resignations happen, usually because a strong performer received the same increase as everyone else and read it as a verdict. Five moves make a flat pool work harder:
- Differentiate harder: Fund 5% or more for your top tier by taking the bottom tier to zero.
- Fix compression first: Use the compa-ratio side of your matrix to lift underpaid strong performers before topping up anyone already above midpoint.
- Move money off base pay: A one-time bonus or supplemental pay rewards the year without permanently raising the run rate.
- Pay in things other than cash: Extra leave, learning budgets, and a better-run benefits administration setup all read as investment.
- Explain the math: People accept a small increase far more readily when they hear the budget, their position in range, and what would move them up next cycle.
A flat budget is a communication problem at least as much as a finance one.
How does Wisemonk help you get compensation right?
Wisemonk is an India-native Employer of Record. We handle hiring, payroll, benefits, and compliance in one place, so an approved merit increase lands on the right pay date without you chasing three vendors to make it happen.
- Hiring: we source, screen, and onboard full-time employees on your behalf, and our guide to hiring international employees walks through the compliance side.
- Payroll: we run compliant monthly payroll, apply every approved increase on the correct cycle, and keep reporting audit-ready. The mechanics are covered in our global payroll guide.
- Benefits administration: we design and administer everything that sits around base pay, from insurance to allowances, as set out in EOR benefits administration.
- Compliance: employment contracts, statutory filings, and terminations handled in-house rather than passed to a third party, as explained in employer of record compliance.
- Contractor management: we onboard and pay contractors compliantly, and convert contractors to employees when the relationship outgrows the contract.
Here is what that looks like in our clients' own words:
"Wisemonk has helped us hire the right people for a Canadian entity. The process is so smooth we don't even notice that our payroll spans two countries." - Dinesh A., Co-founder and CTO
"Wisemonk has hired high-quality candidates that impressed us, and the team is responsive to our requests and changes over Slack, a shared hiring tracker, email, and calls." - Dan Sampson, VP of Engineering, Cobu
We are one of the strongest EOR providers in India. We know Indian employment law, payroll, and statutory compliance because it is what we work on every day, and we are planning our expansion into future markets such as the US and the UK.
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Frequently asked questions
What is the average merit increase in 2026?
US merit increase budgets average 3.2% for 2026, with total salary increase budgets at 3.5%. Mercer surveyed more than 1,000 US organizations in late October 2025 and found both figures unchanged from 2025 actuals. WTW, Payscale, and Gallagher land in the same 3.2% to 3.5% band, making this the third straight year of flat budgets after the 2021 to 2023 surge.
Is a merit increase the same as a raise?
A merit increase is one type of raise, awarded specifically for individual performance. Cost-of-living adjustments track inflation, and market adjustments correct pay against external benchmarks. All three permanently raise base salary and become the base that future percentage raises are calculated from, but only the merit portion is earned through performance.
How do you calculate a merit increase?
Multiply the current salary by the merit percentage to get the annual raise, then add it to the current salary. For example, a 3.2% merit increase on $80,000 is $2,560, raising the salary to $82,560. Divide by 12 for the new monthly figure, which works out at about $6,880 before deductions.
What is a good merit increase percentage?
In 2026 the US average is 3.2%, so anything at or above that is competitive on paper, though it trails the 3.4% inflation rate for the year to July 2026. A meets-expectations rating typically lands between 2% and 3.5%, while strong performers commonly receive 4% to 5.5%. A flat percentage for everyone usually signals the process is not differentiating.
What is a merit increase matrix?
A merit increase matrix is a grid that sets each raise from two inputs: the performance rating and the compa-ratio, which is where the salary sits against the midpoint of its pay range. Strong performers below midpoint receive the largest percentages, while strong performers already above midpoint receive less. Build the grid so the weighted average across your population matches your actual budget.
Do merit increases raise employer costs beyond the raise itself?
Yes. Because employer-side payroll taxes and contributions are calculated on base pay, raising a salary also raises everything tied to it. The true budget impact of a merit increase is always higher than the raise amount alone, so model the loaded cost across the whole population before committing the pool.
How often are merit increases awarded?
Most companies award merit increases once a year, usually after the annual performance review. Some add off-cycle adjustments to retain a high performer or correct pay that has fallen behind the market between review cycles, and off-cycle activity tends to rise in years when the main budget is flat.
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