For the most part, small business ownership is everything you hoped it would be. But, that doesn’t change the fact that it comes with some not-so-fun responsibilities as well.
One of those dreaded tasks? Bookkeeping. In fact, nearly half of small business owners say that bookkeeping is the to-do that they loathe the most. Combine that with all of the other things that business owners have on their plates, and it’s no wonder that a staggering 72% of them admit to feeling overwhelmed by their responsibilities.
Here’s the good news: We’re here to help you tackle one of your major accounting tasks with ease and confidence. This article breaks down how to do payroll, and answers some of the most common questions that business owners have.
What exactly is payroll?
You’ve likely heard the term payroll before, but it’s often used in a variety of contexts. That isn’t a mistake—payroll really does have two parts to its definition.
In its simplest form, payroll refers to the total amount of money that a company pays to its employees (for example, your company has a payroll of $80,000). However, it can also be used to represent the actual process a company goes through to calculate and process payment for employees (for example, your company runs payroll every two weeks).
From calculating wages to paying payroll taxes, there’s quite a bit involved in the payroll process—and we’ll break that all down in later sections. But, if you want to think about payroll in terms of a straightforward framework, it can be separated into three main components:
- Preparation: First, you need to lay the groundwork. This is when you’ll ensure that you have the necessary forms and information from employees, determine your payroll schedule, and get set up with a payroll provider, payroll service, or payroll system.
- Payment: Here’s when you’re actually paying employees, whether it’s through direct deposit or traditional paychecks.
- Post-payment: Your work isn’t over just because your employees have their money in-hand. The IRS requires that small businesses handle a number of logistics, including paying payroll taxes and maintaining a payroll register.
That’s the gist of how to do payroll. With that broad context in mind, let’s sink our teeth into more of the nitty gritty details that you need to know.
Laying the groundwork: What you need to run payroll
It’s easy to think that the payroll process starts when it’s time for you to actually dish out your employees’ wages.
However, in order for you to run payroll correctly, there’s quite a bit that needs to happen before employees ever get that money in their bank accounts—and it all starts when you hire a new employee.
Here are some upfront tasks you’ll need to take care of before you can pay your employees’ wages:
1. Decide on an accounting and payroll system
Attempting to handle all of your accounting tasks manually will only add to your stress. It’s better to proactively get accounting and payroll software in place, so that you can keep all of that information centralized and organized to begin with.
Want a simple way to run payroll? Hourly is a great option.
2. Collect the necessary information and paperwork from employees
Whenever you have a new employee join the team, you’ll need to ensure that you collect the appropriate information from them. This includes:
- IRS W-4 Form: Employees will fill this out so that you can calculate how much federal income tax you should withhold from their pay.
- State W-4 Form: A large chunk of states also require that employees fill out a state W-4 form to help employers calculate local tax withholding.
- U.S. Citizenship and Immigration Services (USCIS) Form I-9: This form proves that an employee is eligible to work within the United States.
- Direct Deposit Enrollment: If you plan to pay employees via direct deposit (rather than printed paychecks), you’ll need them to fill out a direct deposit application so that you have their authorization and necessary bank account information.
Of course, there’s other new hire information you’ll need to get as well—such as their emergency contacts, their benefits enrollment (if you’re offering health insurance, retirement savings plans, etc.), and their employment application.
It’s smart to create a simple checklist for yourself so that you can make sure you get all of these details right away and don’t need to chase them down at a later date.
3. Determine your payroll schedule
How often do you intend to pay your employees? In this step, you’ll figure out your pay period—which is the recurring schedule you’ll use to run payroll. Some of the most common options are:
- Weekly pay: Employees are paid every week.
- Bi-weekly pay: Employees are paid once every two weeks, with payday on the same day of the week (such as a Friday).
- Semi-monthly pay: Employees are paid twice per month on specific dates (such as on the 15th and last day of the month).
There isn’t one option that’s inherently better than the other. However, you’ll want to check if there are any mandated payment frequencies within your state to confirm you’re complying with any laws about pay periods.
4. Establish a payroll bank account
Maybe you already have a business bank account set up. That’s a great first step, but you’ll likely want a separate bank account that you use just for paying employees.
This will help you keep payroll separate from any of your other business expenses, which allows for easier and more accurate record keeping. It can also prevent account overdrafts.
5. Set up direct deposit (if necessary)
If you plan to offer direct deposit for employees, you’ll need to use the information they listed on their direct deposit enrollment form to get them set up for deposits through your accounting or payroll system.
How to do payroll: 5 simple steps to follow
You have the foundation laid, and now your small business is ready to start actually paying employees. Let’s cover a few simple steps for payroll processing.
1. Figure out the employee’s gross pay
You’ll start by determining the gross pay for each employee. This is the total amount of money that you owe them (without any withholdings or deductions).
So, if the employee is hourly, you’ll calculate the number of hours worked in the pay period and multiply that by their hourly rate, whether for regular hours or for overtime hours. If they’re a salaried employee, you’ll determine the total amount owed for that pay period.
2. Calculate withholding and deductions
Employees don’t actually get to collect their gross pay. As the employer, there are a number of deductions you’ll need to calculate, including federal income taxes, state and local income taxes (if applicable), and payroll tax.
Payroll tax is a broader bucket that includes Social Security and Medicare taxes (known as FICA taxes), federal unemployment taxes (FUTA), and state unemployment taxes (SUTA).
This is why it’s important that you collect those initial forms when you bring on a new hire, as you’ll use that information to inform this process and determine how much you need to withhold.
Additionally, if employees contribute toward their health insurance, retirement savings plan, or any other benefits you offer, that will need to be deducted from their paycheck as well.
Garnishments, such as child support or a federal tax levy may sometimes also have to be deducted.
3. Distribute payments
It’s time for your employees to get the money they’re owed. In this step, you’ll write their paychecks or issue their direct deposits.
4. Make payroll tax deposits
Once you’ve paid your employees, you’ll need to make your payroll tax deposits to the IRS.
These deposits will cover the amount you withheld from employees for their federal income tax, the amounts you withheld for Social Security and Medicare, and the amounts you owe for your own Social Security and Medicare taxes.
You’ll make these payments on a semi-weekly or monthly basis, depending on the size of your payroll. Don’t panic—it’s relatively easy to do by using the IRS’ electronic filing system.
Previously, employers could also use Form 8109. However, be aware that was discontinued by the IRS in 2011 and all business owners are now required to make federal tax deposits electronically.
In addition, you will need to make your state income tax deposit based on that state’s requirements.
5. Update your payroll register
- Total gross pay
- Total and type of each deduction
- Total net pay
If you’re using a payroll system (like Hourly) or accounting software, your payroll register will likely be part of that solution—and might even get updated automatically.
Don’t let payroll stress you out
Business owners have a lot on their plates. But, payroll shouldn’t be something that adds even more stress and headaches.
One surefire way to make managing payroll way more straightforward is to find a payroll service or payroll system that can do most of the hard work for you.
Hourly makes it easy to set your pay schedule, automatically calculate payroll taxes, provide direct deposits and pay stubs, and keep adequate payroll reports. So, you can avoid going cross-eyed while looking at spreadsheets and IRS forms and get back to what matters most: running your business.