Loyalty Tax & How to Fix a Broken Incentive System

Before I jump into this episode, I want to give a big thank you to this episode's sponsor, Kanopy. Kanopy is a best-in-class practice management software to help your firm run smoother. If you want to get the most out of your talent at your accounting firm, you need to make sure that they have access to the right tools to be able to properly leverage their time and spend more time doing what they are best at, and less time in the weeds trying to manage firm operations, trying to get organized folders, and trying to figure out where all the documentation is. So if you want to run a smoother operation, check out getkanopy.com. They're going to be linked in the podcast description. And unclunk your firm with Kanopy. Hello, and welcome to the Big Four Transparency podcast. This week, we're doing something a little bit different with a solo episode. This one's going to be pretty heavily based on some charts that I pulled up on the data from Big Four Transparency. It's going to resemble a lot of the content that we tend to cover in the newsletter. And since this is a little bit more of a visual presentation at some parts of it anyways, I would recommend maybe if you are listening on Spotify or Apple Music, it might be worthwhile to go check this one out on YouTube, where we'll have the visuals up on the screen when they come up. That being said, if you are listening, I'm going to make sure to try my best to, you know, describe these charts appropriately for you. And so this episode is all about the loyalty tax, why it's such a big problem in the industry, what it is, what the data is showing us about the loyalty tax, and how firms can do better to fix this and avoid having a kind of lose-lose scenario for themselves as well as their employees. So to start off, what is a loyalty tax? The loyalty tax is something I define as the spread between externally hired employees in the same position as internally promoted employees, where the externally hired employees are being paid more on average than those who are internally promoted. So why this is such a big topic in the industry is we're basically creating an incentive system here, where if you want to be paid, you know, at the highest range possible for the same amount of work that you're doing, there is this incentive structure where you're generally going to be paid higher if you are kind of jumping firms if you make yourself an externally hired employee within a given role. So I'm going to share my screen here and show a couple charts about this. And again, I will make sure to do my best to describe these charts for you as well. But basically, yeah, what this spread looks like is quite significant, actually. So I broke it down in a chart for first-year seniors, first-year managers, and first-year senior managers in tax and audit in the U.S. based off of 2024 and 2025 data. Now it's showing us that within that kind of range, within those roles, the spread where externally hired employees are being paid more for first-year seniors is 6.3%. So externally hired are making around $95,000 versus $89,000. 8.9% when it comes to first-year managers, and back down to 2.6% when it comes to first-year senior managers. The next chart is for Canadian employees. And it's kind of, you know, it's largely the same message, except the spread is a little bit different. With it being larger at the senior and senior manager levels versus the manager level, whereas in the U.S., the manager is the largest kind of peak where we see those. And I see this a lot from kind of some of the work I do with the Big 4 Transparency Talent Pool as well, where a lot of firms are very willing to kind of pay up for manager-level talent, a lot of, you know, tax rolls coming up for $150,000 a year for managers. And, you know, that comes from the lack of talent at that level in the industry, especially, you know, in my experience, this tends to be more with regional firms, but this is kind of across the board and this data is representative of that. When we go into consulting and advisory as well, that spreads actually quite large as well. So first-year seniors, 10.8% difference. First-year managers, 6.4% difference. And first-year senior managers, 16.4% difference between the two. And the way this trend is going, I kind of did an analysis here. I looked at audit and tax, you know, differences in salary level year over year for first-year managers is it's not trending down, that's for sure. So it is a little bit up and down. However, the overall trend line is positive. And in 2025, so far, based off of the data collected, we're looking at a 13.7% spread between those. And so, again, when we take a break here and we look at the incentive structure that this creates and why it is a lose-lose for everyone, it's, you know, like I mentioned at the start of the episode, it's creating a structure where if you want to be paid near the top of the market, your incentive is actually to leave the firm and go find a new job doing basically what you're doing in another firm. It might be kind of the same level firm. It might be the same type of firm. You might be doing, again, largely the same thing you would have been doing, but just because of this difference and because of firms' willingness to pay to attract talent more so than to retain talent, you end up with this structure where, yeah, every incentive is pointing towards job hopping. So I'm just going to stop sharing screen now. So every incentive is pointing you towards job hopping when it comes to this. And so why the employee loses on that front, like, you know, this depends on the person, but it can be exciting to start at a new firm. It can be exciting to start a new job, but it is actually very disruptive, right? So you lose a lot of those relationships that you had at your existing firm, where if your goal was to make partner, that can, you know, that can kind of disrupt that track. You don't know where you're going to land when you go to the new firm. And it can be very burdensome to learn all of the new systems and all of that. And I think this is just becoming increasingly disruptive to firms as technology starts to play a larger and larger role in, you know, client delivery. So technology is more important than ever. And with that, there's just more of it, right? More processes are automated, there's more tools for you to learn. And so the time that it takes for an employee to ramp up and become fully effective and onboarded into all of these new systems becomes increasingly costly. So from the firm perspective, the reason why this is a little bit of a losing incentive structure is again, the cost of, you know, a new employee that might take three, six, nine, even maybe 12 months at the higher levels to get someone who is fully, fully onboarded, fully, fully aware of firm processes, technologies, and all of that. There's also the cost of recruiting an employee. And so, you know, for a lot of recruiter fees, you're looking 20 to 25%. We do things differently with the talent pool, but, you know, traditional recruitment model might be that high. And so this is just not a kind of profitable, overall system that we've created around the loyalty tax. And it's, it's definitely very, very damaging for firms. And so, you know, we might be wondering what the solution is out of here. And to me, it really seems like more firms need to be more conscious of the benefits of employee retention rather than just attracting new employees. And that's like a well-known thing across many industries where people are willing to spend money to fix an acute pain, right? So when you are short staffed, that is an acute pain because maybe you are either, you know, everyone's overworked, hurts firm morale, hurts partners, because ultimately, when there's a problem, the buck is going to stop with them. And, and, you know, that's, that's what it feels like when there's an acute pain. And so you're willing to spend to fix that problem. However, a lot of firms would be much better off investing a little bit more in employee retention. So this being big for transparency, we're obviously talking about salaries quite significantly as a major part of this. But when you are benchmarking for external salaries, what a lot of people are doing is they're, they're taking feedback from candidates, right? So candidates are going to give a given salary range that they're expecting. And that is often going to be a little bit more of maybe an aspirational salary range, because, you know, I want you to pay up for me to leave what I have going on right now. That's completely normal. And so they're being receptive to market feedback when it comes to setting salaries for new hires. However, they are not at the same time being receptive to salary setting and benchmarking and market feedback when it comes to existing employee, you know, either retention bonuses versus signing bonuses, or maybe, you know, salary benchmarking for those increase, a lot of firms might just apply a base percentage increase to that. And, and so they're not necessarily aware of what the market rates are until it comes time for hiring someone new. And so if you're listening, and you are a firm owner, what I urge people to do, and again, this is going to sound a little bit biased, because I do offer salary benchmarking services with big for transparency. But I think what people need to do is do a better job of benchmarking, you know, the year over year increases so that people are in line with what's going on with market rates, not only for that externally hired talent, but for internally promoted people as well. If you're an employee, what this means for you is, you know, if your firm is doing a lot of hiring, it's a good idea to, if you have that relationship with the person to understand what people who are being hired into your position are being paid. Again, big for transparency is a great way for you to check the data, check what people are entering into the database as their salaries so that you can benchmark against it, and have those discussions of saying, Hey, I know the market rates are here, you know, this is where I would like to be. And I've made some episodes on how to sort of have those discussions before. But again, this is this is pretty important. And for a lot of people like this might look like, again, we showed it in the data, you know, 678 10, even 12% increases versus what they are being paid. And, yeah, so that was just something I wanted to shed a little bit of light on. You know, as I was doing the work, this is going to be published in a newsletter as well as an article in the works right now with accounting today. But this is something that I really wanted to make sure to kind of broadly talk about, you know, shed a little bit more light on and add a little bit more narrative than I can necessarily do in the newsletter, to hopefully make this information useful to you, whether you are an employee, or whether you are, you know, a firm trying to improve retention, trying to improve employee engagement, and reduce all of those costs that are associated with high employee churn, and then trying to backfill that, or, you know, fuel your growth via net new hires at your firm. So yeah, that's kind of it for this, you know, I hope that you checked it out on YouTube. But if not, the charts will be shared out in the newsletter in the coming weeks as well. So you can check them out there if you listen to audio only. Thank you very much, and I will see you all next week.