Referral rewards have become a popular tool for businesses to attract new customers through word-of-mouth marketing. A referral reward is a type of incentive that businesses offer to their existing customers for referring new customers to them.
Offering rewards to your customers in return for them spreading the word about your brand is a simple, yet effective way to encourage referrals and drive sales. Knowing what and how much to reward your customers with is little more complex though. That’s why we’ve created this this comprehensive guide that will help you calculate the ideal reward value for every referral someone sends your way.
For the best advice on calculating the value of a referral reward, and what reward generates the most referrals, we asked Kirsty Sharman – founder of Referral Factory – to answer some questions that our readers submitted.
Kirsty is a serial entrepreneur, obsessed with finding new ways for businesses to grow. Kirsty has spent over a decade exploring emerging marketing trends and finding new ways to meet changing customer needs. Who better than to ask about the value of a referral reward and which rewards work best to get referrals than this tech and marketing mastermind?
Let’s get started!
Can You Describe A Referral Program In The Simplest Way?
The most straightforward answer that best describes a referral program is a marketing strategy that encourages your existing customers to spread the word about your business, in exchange for referral rewards. A great referral program makes it easy for your customers to refer their friends and family, and it also makes it easy for your marketing team to track and reward those referrals.
The key to any referral marketing strategy is adding the element of rewards and incentives. Rewards motivate your customers to actively refer new business your way, and shows them that you value their participation in your referral program. Incentives motivate the friends that are referred to buy, sign up or try out the brand.
This win-win solution is the simplest way for your business to get referrals and in a referral marketing (jargon) terms it’s called a double sided referral program.
Make sure your referral program delivers smart, positive experiences to customers on their journey toward brand advocacy. This means a referral program that is simple to use, easy to understand, has compelling messaging and imagery, and communicates the benefits and incentives of the referral program clearly.
Once your referral program is live and you start getting referrals, make sure you spread the word about it to as many people as possible. For more tips on how to do this, see the article I wrote on 15 ways to get users referring fast.
Are Referral Programs Expensive To Implement?
No, not anymore.
Many business owners still believe that referral programs are expensive and technical to get up and running. This is because in the past, building, managing, and tracking a referral program was a costly and technical exercise because you had to hire developers to build and maintain the system.
But times have changed, with the rise of low code software tools you can now get your entire referral program (including tracking) up and running, without writing a line of code.
Heck. You can even auto generate your referral program using AI now!
If you’re considering launching a referral program, and you’re looking for a tool to build and manage it. This shows what referral tools that are currently trending with real buyers of referral software.
Referral programs can now be implemented in a cost-effective and straightforward manner, regardless of the size of your business. Costs range from around $100 to $900 depending on the amount of users you have referring.
Since the price and difficulty of launching a referral program has declined, the industry has seen a mad rush of startups, SMEs, and even enterprises attempting to automate word-of-mouth referrals. These businesses are essentially looking to get more high-quality referrals that convert into customers.
Single or Double-Sided Referral Programs, What’s Best?
There are two ways a referral program can be built, either as a single sided or double sided referral program. A single sided referral program offers one user a reward or incentive, and a double-sided referral program is where both the person referring and the person invited will get a reward or incentive.
Data from the top 1000 referral campaigns run on Referral Factory in 2022 shows that double-sided referral programs perform 2.4x better than single-sided referral programs.
The reason for this is simple: the incentive for the person being invited is actually the most important factor that motivates the person referring. Your customers will feel much more comfortable referring their friends if they know they can give their friends something too. It changes the whole dynamic from someone hard selling your business to their friend, to someone offering their friend a a killer deal. But that’s not the only benefit to adding an incentive to your referral program – if a friend or family member receives a discount or incentive of sorts it increases the likelihood that they will act now, and choose your brand over another. That means more referrals for you!
Here’s two examples of a killer offer on a double sided referral program 👇
How Do Rewards And Incentives Differ?
A reward is given as a “gift” to thank your customer for successfully referring new business your way.
An incentive motivates the person invited (hopefully your next new customer) to complete a desired action like buying, booking a demo, etc.
And while rewards and incentives can be almost anything you can think of, rewards that work best are those that drive the maximum adoption of people to use your referral program. Think about what your current and new customers would be excited about, and make sure to align your reward with your business values – so that you attract the right kind of behaviour and prospects with your referral program.
How Can Customer Data Can Help You Calculate The Value Of Your Reward?
Today’s modern marketer must be data-driven, making informed decisions backed by real customer data. And with so much data available, calculating the lifetime value of your customers and how much it costs your business to get those customers is really not as complicated as it sounds.
Using the value of your customer and the cost of your customer acquisition will make it that much easier to work out what the value of your referral reward should be. Once you have this data you can make an informed decision as to what the value of the reward should be.
By offering a reward that is proportional to the value of the newly acquired customer, you can ensure that your referral program is cost-effective and provides a good return on investment.
How Do I Calculate The Value Of My Customer?
While this sounds very technical it really isn’t and again important to note that the value doesn’t have to be perfect. Working with a pretty close estimation of the value of your customer or the lifetime value of your customer will still help you get close to the ideal value of your referral reward.
To work out the value of your customer you use their average purchase value multiplied by the average number of purchases. So the formula will look like this: Customer Value = Average Purchase Value * Average Number of Purchases.
Once you have your customer value, you can dive a little deeper into working out your customer’s lifetime value by using the customer value multiplied by the average customer lifespan. The formula will look like this: customer Lifetime Value = Customer Value * Average Customer Lifespan.
As a marketer, you will know that these basic customer calculations are key to everything that you do, from planning new campaigns to working out the return on investment. Referral marketing is no different.
How Do I Calculate The Value Of My Referral Reward?
There are two approaches you can use to calculate what the value of a referral reward should be. The thing you need to consider is the cost of the reward for your existing customers as well as the cost of the incentive for the friends who have been referred.
The first approach is to first figure out the lifetime value of your customer. From there, it’s really as simple as understanding that the value of your referral reward and incentive should not be more than 10x lower than the lifetime value of your customer. This is because your acquisition cost should never (ever) be more than the lifetime value of customer, or you’d be loosing money.
The second approach is much simpler, and what I see most businesses use as a starting point. Quite simply – you make your referral reward and incentive cost equal to your current average cost to acquire a customer. Note this is your cost to acquire a converted customer, not a lead.
If you know what your overall acquisition cost of a new customer is, you can simply take this cost and split it between the person referring and the person invited. Give $100, Get $100, for example.
For example: Let’s assume your current cost to acquire a customer is $100. You could split this and give $50 to the person referring and $50 to the person invited. This way, your cost to acquire a customer stays the same, but you’re able to aquire way more of them for less work. Why? Because referred leads are 2x more likely to convert than leads acquired through paid marketing channels.
Your referral program should be profitable, and the value of your reward and incentives should make sound commercial sense to your business.
Making your referral reward and incentive too low and you run the risk of driving low engagement of your referral program, which will make your referral program ineffective.
But at the same time understand that a referral reward that is too high in value can also be a problem as you will be spending more money acquiring a customer than you make from the customer and long term this can put you in financial hot water.
This is why finding the ideal middle ground is the only way to reach the right balance.
What Are The Best Referral Rewards?
Referral programs that drive the most profitable growth are those that reward customers but also reward you as the business. What do I mean by this? A reward that adds value to your existing customer but also generates revenue for the business. We refer to this as rewarding in your own currency. While there is no right or wrong answer when it comes to selecting a referral reward or incentive, a reward in your own currency that drives customer acquisition and retention is what often makes the most sense. Examples of this could be:
- Products, goods, or services
- Rewards points (if you have a pre-existing rewards program to plug into)
- Exclusive access
Note that if you want to issue your own reward – make sure the referral marketing software you use
But on the flip side, you also need to consider what is also good value for your customer, and what your customer actually wants. If your product or service is not something they use frequently, then offering a reward in your own currently might not be best, in this case, it may be better to offer a digital Visa cash card or a gift card like Amazon.
Think about what reward or incentive will increase people to actively participate in your referral program, essentially becoming advocates for your brand. Ultimately, the best referral rewards and incentives depend entirely on your business and your customers’ preferences. Consider running two referral campaigns to test different rewards and incentives, essentially tracking their effectiveness to determine which ones are most effective.
What’s The Average Amount Of A Referral Reward?
The answer to this question varies depending on the industry, the type of business, and the specific referral program. Generally, referral rewards range from a small discount or free product to a significant cash bonus.
For example, in the retail industry, a referral reward may be a 20% discount on the next purchase for the existing customer and the new customer. On the other hand, in the financial industry, referral rewards may be much higher, ranging from $100 to $1,000 or even more.
In some cases, businesses may offer tiered rewards based on the number of referrals or the value of the new customer’s purchase. For instance, a business may offer a $50 reward for the first referral, $75 for the second, and $100 for the third and subsequent referrals. Spoiler alert, data does show that tiered referral programs tend to perform poorer than simple referral programs. This is because keeping it simple makes it easier for everyone, one referral = one reward. Easy to read, easy to understand, easy to action.
It’s important to note that the amount of a referral reward should align with the value of the new customer to the business. A high-value customer may warrant a higher referral reward than a low-value customer.
The average amount of a referral reward varies widely based on the industry and the specific referral program. As a business, it’s important to carefully consider the value of a new customer and offer a referral reward that is both attractive to existing customers and aligned with the business’s goals. Testing different rewards and incentives through multiple referral campaigns can also help determine what works best for your business and customers. With the right referral rewards and incentives, businesses can encourage their customers to become brand advocates and drive new business through word-of-mouth marketing.
What Are Tiered Referral Rewards?
Tiered rewards in a referral program refer to a system where customers receive different rewards or incentives depending on how many referrals they make. Essentially, the more referrals a customer makes, the greater the rewards they can earn. I would strongly advise against this mechanic though, tiered rewards tend to confuse the users participating in your referral program and they don’t actually encourage them to refer any more than the simple 1 referral = 1 reward mechanic.
Here’s an example of how a tiered rewards system might work in a referral program:
Tier 1: The customer earns a small reward, such as a discount code, for referring one friend to the business.
Tier 2: If the customer refers two friends, they receive a slightly larger reward, such as a free product or service.
Tier 3: If the customer refers three or more friends, they receive the largest reward, such as a cash prize or a significant discount on a high-value product.
By offering tiered rewards, businesses can gamify the referral process for the customers participating, and essentially make it fun to spread the word about their products or services.
Although they are not my preference, tiered rewards can be an effective way to motivate customers to refer their friends, but it’s important to make sure the rewards are valuable enough to encourage customers to continue referring people. No caps, hats, and water bottles as rewards please! If the rewards are too small, customers may not feel motivated to participate, while if they are too large, the business may end up losing money on the referral program. Finding the right balance is key to creating an effective and sustainable referral program with tiered rewards.
Are Referral Rewards Taxable?
Referral rewards refer to the incentives or monetary benefits offered to individuals for recommending others to a company’s products or services. In most cases, referral rewards are taxable as they are considered as taxable income under the Internal Revenue Service (IRS).
According to the IRS regulations, any income from sources such as bonuses, commissions, and rewards are considered taxable. The value of the reward is included in the recipient’s gross income for the year in which it is received and is subject to federal income tax, Social Security tax, and Medicare tax.
However, if the reward is in the form of a gift or non-cash item, it may be exempt from taxation if it meets the IRS gift criteria. Generally, gifts with a value of less than $15,000 per year are not taxable.
It is essential to note that the responsibility of reporting referral rewards as taxable income falls on the recipient of the reward. Failure to report referral rewards as taxable income could lead to penalties, fines, and interest on the unpaid taxes.
In summary, referral rewards are typically taxable income, and the recipient should report them as such on their tax return. If the reward is a non-cash gift valued below $15,000, it may be exempt from taxation. It is advisable to consult a tax professional to understand how to report referral rewards accurately and comply with the IRS regulations.
Where Do I Get Started With My Referral Program?
Nobody starts anything new without proactively researching the topic, task, or technology they are looking to try. So the fact that you have asked this question means you are off to a great start. A good understanding of referrals, rewards, and your customers will help you model your referral program, determine what your reward should be, and calculate the value of the reward that should be given to drive more referrals.
The best place to start is to find referral program software that is the right fit for your business. Here are some top tips to consider when making your decision:
- Choose referral software that makes building, launching promoting, and managing your referral program as easy as possible.
- Look for a platform that allows you to offer a referral link to your customers, rather than a referral code. Codes always end up a mess because the person invited loses them, or forgets to enter the code on checkout. Links also are easier for people to share and can be customized to act as personal invitation pages for each of your referrers.
- Opt for a no-code, no-developer solution that allows you to build landing pages and customize the design and style of your referral program to look and feel just like your brand.
- Choose referral software that also offers seamless integrations, in most cases this would be an integration with your CRM. This helps you manage your referral program while keeping your workload to a minimum.
- Another non-negotiable feature that your referral software should have is advanced referral tracking and analytics. The ability to easily monitor the performance of your referral program and identify areas that you can improve on is vital to the success of your referral program. Make sure you can track the conversion rate of your referrals easily, as this is a key metric to measure the true impact of your referral program.
- Of course, you should look for referral software that has the functionality to automatically issue rewards to your referrers and their friends. This will save you so much time, and help you streamline your referral program to be more efficient.
What’s One Thing Everyone Should Know About Referral Rewards?
There is no right or wrong referral reward, value, or type. Great marketers will know what to offer by gut instinct, and others will be able to choose from popular rewards inside their platform of choice.
One of the biggest lessons I’ve learned from running hundreds of referral campaigns is that people are driven by giving more than they are by getting. The referral programs that I have seen perform the best and get the most referrals are those driven by a great incentive, rather than a great reward. People feel more comfortable receiving when someone else is getting something too. So splitting a referral reward as an equal value exchange where everyone gets something, will drive more people to join your referral program.
See How Many Referrals You Can Get
Based on the number of people you have to ask for referrals (these people could be customers, fans, or employees), you can calculate how many referrals you can get by launching a referral program. Referral Factory has launched the calculator below to help you estimate how many referrals you could get by implementing referral marketing tactics in your business. You can find the referral calculator here.
To Sum Things Up
Offering your business so much more than just customer acquisition, referral programs also help to strengthen customer relationships over time. Great referral rewards (if you issue your own) also encourage return purchases from customers that haven’t shopped from you in a while.
Overall, launching a referral program can help you grow your business exponentially. It’s an attractive marketing tactic for good reason! You’ll not only be able to acquire new customers on auto-pilot, you’ll also be generating brand awareness as people spread the word about your business to their friends, family, or networks.