Before Payroll Part 2: Cost of an Employee

Today I would like to continue on with the Payroll topic. Last week we discussed rethinking the need for an employee along with some alternatives such as employee automation. Today I would like to discuss the full cost of an employee. If or when you decide you need an employee, the next step is to figure out what your bottom line costs will look like. To help you think through the full cost of an employee, I would like to discuss the costs of salaries and wages, the costs of payroll taxes and required insurance, the need and potential costs of payroll processing, and the inefficiencies that result through the need for training, supervision, corrections, and redundancy.

Cost of Salaries and Wages: This is the base wages or salaries that you will need to bring in and maintain qualified, competent employees to do the work.

Payroll Taxes and Insurance: This expense is the most obvious, but I have seen many new employers surprised by the real cost. The costs is that imposed on you at the federal and state levels and breaks down as follows:

  • Social Security Employer Portion – 6.2%
  • Medicare Employer Portion – 1.45%
  • State Unemployment Insurance – Based on company history, State, Unemployment tables, but is usually between 2 – 5%
  • Workers’ Compensation Insurance – Based on industry, company, history, and employees (for self-employed, check with your state’s regulations as you may be able to opt out of this for yourself!); Average cost for a small business is between $500 and $10,000 per year.

Amounts to be withheld from employees paychecks (keep an eye on these numbers because you are required to withhold these funds from employees’ checks and submit them to the IRS and States on a weekly to quarterly basis depending on your payroll size):

  • Federal Withholding Employee Portion – Based on individual withholding rates as set by the income tax tables
  • Social Security Employee Portion – 4.2%
  • Medicare Employee Portion – 1.45%
  • State Withholding Employee Portion – Based on individual withholding rates as set by the income tax tables

You will have to submit both employer and employee taxes to the IRS or State as required based on your payroll size, so keep this in mind as plan your cash flow. Based on this information, I would like to break down the following example payroll:

  • You pay 1 employee $500 gross a week for their work, which, after deductions, comes out to a net of $451.75 ($12.50/hr for 40 hours)
  • You are required to pay $38.25 in SS and Medicare for the employer portion
  • You are required to pay $15.00 in unemployment insurance
  • You are required to pay around $12 in workers’ comp insurance for this employee for this week.
  • You withhold $28.25 in SS and Medicare from the check
  • You withhold $5 in State Withholding and $15 in Federal Withholding
  • Total Cost to you: $565.25

So just in payroll taxes and insurance for your employee that you pay a weekly net amount in their pocket of $451.75, you are paying an additional $113.25.

Payroll Processing: The cost of processing payroll is time, energy, and expertise that you may or may not have. If you have the time and energy, chances are you will still need the adequate training and a good payroll processing system to assist you in this process. I would recommend the payroll package that is provided through QuickBooks as it is quick, simple, and easy to learn (disclaimer: I receive nothing from QuickBooks for saying so). If you need training on how to process payroll, payroll tax payments, payroll tax returns, W-2’s, etc, just stick around long enough as I will be getting to all of that information in the coming months. If you don’t have the time, consider adding the cost of having a bookkeeper or accounting company process your payroll for you. This is a cost of payroll, but the cost of processing payroll incorrectly can land your business in some hurt with the IRS and State agencies, not to mention the cost of hiring an accountant on the back end to get everything straightened out.

Inefficiencies: Going from a one-person show to hiring employees comes at a cost. It costs you as the owner time in hiring, training, supervision, corrections, and redundancy. You will need to hire and retain the talent you need. You need to factor in a training and probationary period where productivity will be lower than expected. You will need to factor in the time it will take you to supervise, correct, and instruct your employees. This will create overlaps and redundancy in your business that will keep you and your employees from operating to their full capacity.

With all of that said, all of the costs of payroll will be worth the expense when your business grows to that capacity. The point is to ensure you are ready to take on the expenses and increase your business’ bottom line. I hope this was helpful for you in thinking through some of the costs of hiring an employee.

Keep Reaching!



2 comments on “Before Payroll Part 2: Cost of an Employee

  1. Pingback: Before Payroll Part 3: Payroll Account Applications

  2. Pingback: Payroll - Setting up Payroll Accounts in QuickBooks - The Sum of Business

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