Payroll for Small Businesses

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Whether you run a successful dental practice, salon, restaurant, or other small business, having a payroll system in place is an essential part of running your business. 

Learning how payroll works and all of the regulations that come along with it is a crucial part of running a business.

As your business grows and takes on more employees, you’ll want to have a solid system in place to handle not only paying your employees but properly filing taxes.

If you’re ready to take the next step in growing your business, let’s dive right in.

Payroll for Small Businesses: FAQ

It’s common for small business owners to feel insecure or have questions about how to make payroll as they grow from the sole employee of their business to having a small (or large) team. Let’s take a look at some frequently asked questions.

Can I run my own payroll?

The short answer is yes! Just like you can choose whether to manually track your own finances or to outsource bookkeeping to a service provider or accountant, you can choose to run your own payroll.

But while it’s possible to do so, that doesn’t mean it’s the right choice for every small business. Your business should take into account your finances, how many employees you have, and how fast you’re growing to determine if you can manage on your own or if you should outsource.

What are the benefits of doing my own payroll?

The primary benefit of doing your own payroll is that it is cheap (or even free), aside from the toll it takes on your time.

Of course, doing payroll on your own can leave you open to errors, especially if you are more focused on other aspects of your business or don’t understand the complexities of tax law. But, if you still want to do it yourself, you can utilize a payroll system, like Gusto, to minimize error and keeps things running smoothly. These payroll systems typically carry only a minimal user fee.

What is the cheapest way to do payroll?

Doing payroll manually is the cheapest option, although it is the most time-intensive. If you don’t want to be as involved, you’ll have to have a payroll service or an accountant to do it for you. With this route, you’ll need to not only cover your employees’ actual pay, but also the cost of doing payroll.

Still, as a small business owner, your time is valuable. Paying someone else to do payroll for you frees up your time to focus on the things that bring money into your business, and this is typically a smarter move than focusing on cost-cutting.

How do I run payroll for a small business?

There are three different options when it comes to a payroll system. As previously noted, you can run payroll yourself. You can also run payroll through online payroll services, or you can remove yourself entirely from the payroll system and hire an accountant. We’ll dive into the nitty-gritty of all three methods below so that you can make an informed decision about which is best for your small business.

3 Methods to Do Payroll for a Small Business

Option 1: Do it manually

While doing payroll entirely by hand is the only free way to do payroll, it is the most time-consuming of all three methods.

1. Get a federal Employer Identification Number (FEIN)

Your employer identification number, or EIN, is how the IRS tracks your business. You can think of it like a social security number for your business. If you don’t already have one, you’ll need to get one in order to run payroll. If you already have one, ensure that it’s correct on all the forms you file.

This step will be necessary for all methods of doing payroll, not just doing it manually.

2. Register with the Electronic Federal Tax Payment System (EFTPS)

The EFTPS is a free payment system that helps you pay your payroll taxes on time. It allows you to pay both your federal payroll taxes and federal unemployment taxes right from your computer.

This step is only necessary if you’re not using a payroll service.

3. Collect employee tax information.

This will include standard information like their names, contact information, and social security numbers. When doing this manually, you’ll also need to collect all employment and financial information like:

  • Form W-4
  • I-9 Employment Eligibility Verification Form
  • State tax withholding form, if necessary in your state
  • Direct Deposit authorization, if you’re planning to offer direct deposit

You’ll likely already have most of this information from when you hired your employees and went through the new hire reporting process, but if not, you’ll need to collect it in order to properly run payroll.

4. Choose your payroll schedule

If you’re running payroll manually, you’ll need to decide how often to pay out your employees’ paychecks. It’s important to check the Department of Labor’s payday regulations for your state to determine any base requirements, such as bi-weekly, monthly, or semi-monthly pay periods when deciding on your business’s pay schedule.

5. Calculate and withhold income taxes

This is the most complicated step in running your own payroll and is where the most errors occur. You’ll start by calculating gross wages, which are the total amount of wages that your employee earns, before payroll deductions like retirement plan contributions, health insurance, and payroll income tax withholdings.

Gross wages include:

  • Overtime pay
  • Employee wages
  • Sick and vacation pay
  • Bonuses
  • Commissions
  • Tips

You’ll calculate your employees’ gross wages by either:

  • Multiplying hourly employee wages by the hours they worked that pay period for hourly employees.
  • Dividing their annual salary by the number of pay periods you have for salaried employees.

Once you’ve calculated gross wages, you’ll subtract pre-tax deductions, like retirement plan contributions, health insurance, and payroll tax withholdings. Only then will you begin calculating federal tax withholdings to subtract from their pay stub.

There are two types of payroll taxes you’ll have to withhold:

  • FICA taxes: Also known as federal employment taxes, these taxes go towards Social Security and Medicare taxes. In 2022, you and your employee are both responsible for paying 7.65%
  • Federal income tax: Most businesses will use the wage bracket or percentage method to calculate federal income tax for their employees with the information on their W-4 forms. For detailed explanations on every method for calculating federal income tax, refer to IRS Publication 15-T.

Depending on what state you’re in, you may have to deduct a state tax and local taxes in addition to FICA and the federal income tax.

Lastly, you can withhold any wage garnishments such as voluntary union dues, or mandated child support from your employee’s paycheck before running payroll. Make sure your payroll runs always include a pay stub that shows your employees their tax deductions on payday. All of this information should also be in your payroll records.

6. Pay payroll taxes

If you registered with the EFTPS, paying your payroll taxes will be a breeze, even when doing it manually. All businesses have to pay:

  • FICA payroll taxes. Just like your employee pays 7.65% of their pay, the FICA tax rate for employers is also 7.65% of employee pay for Social Security tax and Medicare.
  • FUTA payroll tax. This tax goes towards federal unemployment insurance and requires employers to pay 6% on each employee’s first $7,000 in wages. However, if you pay your state unemployment taxes on time, you’ll receive a 5.4% federal tax credit.

Additionally, if your business operates in a state that requires worker’s compensation, you will also need to pay for that. However, there are some exceptions. For example, if you primarily hire independent contractors, you are not required to provide them with worker’s compensation. Make sure to check all of the laws around worker’s compensation in your state and pay that premium on time, if necessary, along with your taxes.

7. File tax forms and W-2 forms

Before you file taxes, you’ll want to set aside money to pay your taxes later. There are different tax schedules, so although you won’t be paying taxes the same day you’re calculating tax deductions, you want to be sure you have enough set aside.

Once that’s done, you’ll need to file:

  • Form 941
  • Form 940
  • Form W-2 for each employee
  • Any additional state tax forms

During your tax filing process, you’ll want to make sure you’re keeping your records up to date. Under the Fair Labor Standards Act (FLSA), you’re required to keep certain payroll records for all non-exempt workers for three years. These records should include:

  • The employee’s full name, social security number, and birthdate (if younger than 19)
  • The employee’s address, including zip code
  • The employee’s gender
  • The employee’s job title
  • The time and day of the week that the employee’s workweek starts
  • The hours the employee works each day
  • The total hours worked by the employee each workweek
  • The basis on which the employee’s wages are paid
  • The employee’s regular hourly pay rate
  • Total regular time earned each workday and/or workweek
  • Total overtime earnings for each workweek
  • All employee wage adjustments
  • Total wages paid to the employee each pay period
  • The date of the payment and the pay period said payment covers

It’s important to ensure there are no errors in this phase of running payroll. Ensure that you have the correct bank account and personal information for all employees, including new hires and other workers on your payroll, like independent contractors.

Option 2: Use a payroll service

If you choose to use a payroll service, you will need to pay a small fee to use the online payroll system. But if you’re a fast-growing company or already have more than a handful of employees, it can be a huge time saver. Just like with doing it manually, you’ll need to have an EIN, but you won’t need to register with the EFTPS because your payroll service provider will handle tax payment for you. To get started with a payroll service, you’ll need to:

  1. Select your payroll provider. Depending on your needs, look for a full-service provider that can handle time tracking and more. Some popular options are Gusto, ADP, and Quickbooks.
  2. Add employee information. While you’ll still need some basic information about your employees, one of the benefits of using a payroll provider is that they can gather additional information and necessary forms directly from your employees without extra work on your part.
  3. Run payroll! Once you’ve gotten yourself set up and set up a pay schedule with all of the necessary regulations, your payroll service will be ready to go.

If you still want to have some involvement in payroll but dread the idea of manually calculating each employee’s pay and tax deductions, using a payroll service provider can be a great option.

Option 3: Hire an accountant

While many businesses have an accountant file their taxes in order to get their tax return, not all businesses also use that accountant for payroll. This is the most expensive option for running payroll, but if you are looking to fully remove yourself from the payroll process, an accountant is the way to go.

You can use an internal accountant who is one of your employees, or have a current employee begin doing payroll, or you can hire an external accountant.

While it can be cheaper to hire the services of an external accountant without having to add them to your payroll as well, it can result in slowdowns because you are not their only client.

Wrapping Up

Payroll is an important part of running a growing business. Whether you choose to do your payroll completely by hand or hand it off entirely to an accountant, it’s crucial that you understand how it works and familiarize yourself with all laws and regulations surrounding worker pay and taxes in your state.

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