Before talking money with an employer who’s hiring you from a temp agency, it helps to understand the math -- and get ready for a pay cut.
FORTUNE — Dear Annie: I’ve been working as a full-time contractor at a semiconductor company for the past year. Officially, I’m a W-2 employee of the staffing agency that supplies freelancers like me to client companies. Now, my boss here wants to hire me as a regular full-time employee with a salary and benefits, which would be great, and I’m trying to figure out how to negotiate a compensation package.
I’ve done all the basic research on what similar positions in this geographic area pay, including what various Internet sites say this company pays its employees, but I still feel I don’t have enough information. I know what I make hourly, but I don’t know how much this company is paying to the staffing firm. Here’s how I’m looking at it: If the client, my prospective employer, is paying $X plus $Y to the agency, and then the agency keeps $X and pays me $Y, then I’m worth X plus Y to the company, and my new salary should reflect that. Right? Or am I missing something? — Jersey Boy
Dear JB: Your approach certainly seems logical at first glance but, as you suspect, it leaves out a couple of crucial considerations. First, a bit of background: Melissa Quade, manager of professional services at compensation research site PayScale.com, points out that, if you’re a typical skilled contract worker, the hourly rate you’re getting now is probably pretty high.
“Generally speaking, contract employees are paid a premium rate,” says Quade. “I worked with one consulting firm that paid its contract people four to five times the hourly rate that regular employees’ salaries would work out to, because the contractors had specialized knowledge and were always being poached for permanent jobs at the companies where they were placed. So this firm felt they had to pay what they did in order to hold on to these workers.”
Your situation might be similar, so basing your salary expectations on what you call Y — that is, what the staffing agency pays you — may be unrealistic. Quade says the agency is getting paid a fee somewhere between 15 and 30% of your current pay. Using your X plus Y formula, that would mean you’d be asking for a salary of what you’re making now plus, let’s say, 20%.
Sounds good, but that dog won’t hunt. Here’s why: If and when the client company hires you as a regular employee, it will have to pay something called a conversion fee to compensate the agency for the loss of your talented self. These fees are quite steep, often equal to 30% of gross annual pay. In addition, says Quade, ever-mounting health care costs have helped push the cost of a full benefits package up to as much as 40% of an employee’s base salary.
So let’s do the arithmetic. “Just hypothetically, let’s suppose your annual pay as a contractor is $50,000,” says Quade. (It may well be double that or more, but you can plug in the right numbers as we go along here.) “Assuming the company pays the agency 15% for your services, your total cost to the client company right now is $57,500.
“Now let’s assume the agency’s conversion fee is 30%, and the company will be paying another 40% for your full benefits package,” Quade continues. “If you maintain your current $50,000 pay, your new employer will pay a one-time conversion fee of $15,000, and your benefits will cost another $20,000 per year.”
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The bottom line: Your first year of service as a regular employee will cost the company $85,000, rather than the $57,500 you now cost them as a contractor — a 48% increase.
How likely are they to go for that? Not very, in Quade’s view. “If you assume that the company can’t afford to pay more than the current rate of $57,500 for this position, and with 40% of that, or $23,000, going to benefits, that leaves $34,500 as an annual salary for doing the same job you’re doing now,” she notes. “And that doesn’t include the one-time conversion fee which, at 30% of a $57,500 salary, would be another $10,350.”
You’re the only one who knows, of course, whether your budget can take the hit. But before you decide, says Kevin Hallock, keep in mind that “the advantages of a permanent job go way beyond just a paycheck.” Hallock, who is chairman of the economics department at Cornell University, wrote a fascinating new book, Pay: Why People Earn What They Earn and What You Can Do Now to Make More.
Referring to your X plus Y formula, Hallock notes that “the job you’re being offered is really worth X plus Z, where Z includes a whole lot of intangibles like greater stability, greater chances for advancement, and future employability,” since it’s always easier to get a new job when you already have one.
“This is a long-term relationship,” says Hallock. “So your starting salary is precisely that, a starting point.” If it’s just too low, he adds, two suggestions: First, ask about bonuses or other kinds of incentive pay, which could help make up the shortfall.
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And second, he asks, “How well do you understand what the company’s goals are and how much value you add toward achieving those goals? Anyone who wants to earn more needs to have a deep understanding of that — especially before sitting down to negotiate pay.”
Talkback: If you’ve ever moved from a temp job to a full-time position, how did that affect your compensation? If you’re a hiring manager, what made you decide to turn a contractor into a regular employee? Leave a comment below.