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Should Small Business Owners Do Their Own Payroll?

November 20, 2024

By Karen Stoychoff Inman

Auto shop owner runs payroll from laptop between working on cars.
Does doing your own payroll save you money or cost you time? That’s the question small business owners need to consider.

Doing payroll yourself may appear to save money. But it can also be time-consuming, complicated, and fraught with compliance risks. Plus, the time you spend processing payroll diverts your attention from your business, customers, and workers.  

When it comes to DIY payroll, your best intentions may not save you from costly risks and errors.  

The Hidden Costs of Doing Your Own Payroll

The temptation to save money by doing your own payroll—especially when just starting your small business—is understandable. But the money you save may not be worth the time required to stay current on ever-changing tax laws and compliance requirements.

Paying your workers is about more than just writing a check.  

Processing payroll involves calculating and paying federal, state, and local (if applicable) payroll taxes, including Social Security, Medicare, FUTA (Federal Unemployment Tax Act) and SUI (State Unemployment Insurance). Depending on their classification, workers need to receive a W-2 or 1099, and required employer tax filings generally include Forms 940 and 941, and for household workers, Schedule H.  

Doing payroll on your own is complex, time-consuming and takes your focus away from caring for your customers and workers. It can also be costly. A simple oversight or tax filing error can trigger an audit, costly penalties, and cause you considerable time and trouble.  

4 Common Small Business Owner Payroll Mistakes

While processing payroll is a fundamental task in any business, it's not your primary focus. A small business payroll software provider—like SurePayroll® By Paychex—automates how and when you pay workers, calculates payroll taxes, and helps you comply with local, state, and federal regulations. That means you have more time to grow your business.

If you’d prefer to run payroll on your own, keep in mind that some mistakes are easier to fix than others. Here’s four common small business owner payroll mistakes … and how you may be able to avoid them.

Mistake 1 - Misclassifying Workers

The two employee classifications under Federal and state wage and hour law are exempt and non-exempt. Classifying workers depends on several factors, but exempt workers are typically paid on a salary basis. Non-exempt workers are eligible for overtime pay and are more often paid on an hourly basis or a paid piece rate, although they may instead be paid on a salary basis or commission.  

Under the Fair Labor Standards Act  (FLSA), non-exempt workers must be paid at least minimum wage for hours worked and overtime for hours worked over 40 in a workweek. State laws may require overtime pay for additional hours. Exempt workers are not subject to the overtime requirements under the FLSA.  

Misclassification can be costly. If you misclassify a worker as exempt and it’s later determined they’re actually non-exempt, you may owe the worker back wages if they worked  overtime. This would also impact payroll taxes for the period of misclassification.  

Avoid the Mistake. Evaluate each position using FSLA guidance and applicable state wage and hour laws to correctly classify the position as exempt or non-exempt.

Mistake 2 - Miscalculating Payroll Taxes

Calculating employee pay is about more than just gross pay, or the total amount of money an employee earns before taxes and other deductions. 

Employers can plan for an added 10% over gross pay for employer taxes. Employer taxes include matching Social Security and Medicare contributions, plus paying into federal unemployment and state unemployment (if applicable for your business).  

That means if you pay somebody $1,000 in gross pay for the period payroll, you can expect to pay about an extra $100 for employer taxes. Miscalculating payroll taxes could result in your workers receiving incorrect paychecks and you underpaying necessary taxes –and possibly interest and fines—to the government.

Avoid the Mistake. Take time to fully understand what payroll taxes you’re responsible for paying as a small business owner. Payroll taxes include FICA taxes, which is comprised of Social Security and Medicare taxes, along with state (SUI) and federal unemployment (FUTA) and income taxes (where applicable).  

You also need to understand tax rates and withholding and payment schedules. The IRS tax guide for small business offers a regularly updated resource. Another option is to work with an accountant or bookkeeper or connect with an online payroll provider like SurePayroll. SurePayroll helps simplify how you pay your workers and file taxes.

Mistake 3 - Incorrectly Processing Wage Garnishments

You may need to withhold a portion of an employee’s paycheck as a result of a court order or other legal or equitable procedure. Wage garnishments can include alimony, child support, defaulting on a student loan, unpaid taxes, and other consumer debts.  

When the debt is paid off, you must stop collecting the garnishment and pay your employee their full wages.

Avoid the Mistake. You must act quickly when you receive a court or other legal order to withhold wages; you have an important role in ensuring your employee meets his or her debt obligation. Withholdings vary based on the garnishment so it’s important you know the exact percentage to withhold to comply with applicable legal requirements and prevent an adverse impact to the employee or your business.

Mistake 4 - Poor Recordkeeping

Inconsistent or disorganized recordkeeping can contribute to a variety of unwanted challenges, like missed tax deadlines, tax filing delays, recordkeeping requirement violations and potential employee issues.  

The burden of proof—the responsibility to prove entries, deductions, and statements made on your tax returns—rests with the small business owner. It’s imperative that a small business owner establish and maintain a recordkeeping system to help track income, expenses, deductions, financial statements, and more.  

But what documents to keep and what to toss?

Avoid the Mistake. The Small Business Administration offers small business owners a thorough review of the essential steps to start, operate and grow your business, including a guide to recordkeeping.  

Set aside time at least monthly to organize your business records. Federal law doesn’t require a specific recordkeeping system, so establish one that best meets the needs of your business and your ability to maintain.

FAQ

What is payroll?

Payroll refers to the total costs associated with your workforce. Total payroll expenses include gross pay, plus employer contributions to benefits. Payroll expenses can include FICA taxes, Federal taxes, SUI, other state and local taxes, bonus and commission payments, vacation pay, health benefits, and life insurance.  

Can a small business owner do their own payroll?

Sure. The question is, should they? While processing payroll is a fundamental task in any business, it's not your primary focus. SurePayroll automates how and when you pay workers, calculates payroll taxes, and helps you comply with local, state, and federal regulations. That means you have more time to grow your business.

What is revenue?

Revenue is what a small business generates through sales of products or services, before subtracting operating expenses, discounts, returns or credits due customers.

What percentage of revenue should be spent on payroll?

Payroll varies based on industry, business type and business operating model. Payroll as a percentage of small business revenue is generally between 15% and 30%.

How do you calculate payroll percentage?

A small business owner can calculate payroll percentage in three steps:

  1. Calculate total payroll expenses
  1. Divide by gross revenue
  1. Multiply by 100 to convert to a percentage

For example, Jim’s Garage Gym generated $250,000 in gross revenue and spent $50,000 in total payroll costs last year.

Jim’s Garage Gym payroll percentage = ($50,000 / $250,000) x 100 = 20%  

How do I know if my payroll percentage is too high?

There is no magic formula for a small business owner to determine if payroll percentage to revenue is too high—it really comes down to what supports the business model. Typically, a service business carries a higher payroll percentage to revenue than food service or manufacturing. Many business owners target a range for payroll to revenue based on business trends and seasonality. For instance, a retail business may incur higher labor costs during the holidays, while a manufacturer may post lower labor costs during that same time.  

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This content is for educational purposes only, is not intended to provide specific legal advice, and should not be used as a substitute for the legal advice of a qualified attorney or other professional. The information may not reflect the most current legal developments, may be changed without notice and is not guaranteed to be complete, correct, or up to date

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