How to Do Payroll: A Simple Beginner’s Guide

Running payroll for the first time as a business owner can seem complicated, but getting it right is crucial. Mistakes, delays, or misunderstandings in payroll can lead to fines or even lawsuits, so it’s important to ensure everything is processed accurately and on time.

If you’re a new business owner or you’re bringing employees onboard for the first time, don’t worry! We’re here to guide you through the steps of setting up and managing payroll, whether you choose to do it yourself or work with a third-party provider.

This guide will walk you through the essential things you need to know:

  • What do you need to set up payroll?
  • How do you calculate payroll?
  • What deductions and withholdings should you manage?
  • How do you pay your employees?
  • Can you handle payroll on your own?

Let’s dive in and get you set up with payroll for your employees!

What Do You Need to Set Up Payroll?

Before processing payroll, it’s important to ensure that your business is properly registered with federal and state authorities. Here’s what you need to do:

  1. Obtain an EIN (Employer Identification Number): This number is required for reporting and filing payroll taxes. You can easily apply for an EIN online through the IRS website.
  2. Get a State or Local Tax ID: Depending on where your business is located, you might need to obtain an additional tax ID from your state or local government. This could be through a Department of Revenue or a similar agency.
  3. Register with Your State: Many states require businesses to register for tax withholding, unemployment insurance, and other state programs. Be sure to check your state’s requirements to ensure you’re compliant.

Once you’ve completed these essential steps, you can move on to the practical aspects of payroll, such as gathering employee information and classifying workers.

Gather Employee Information

To set up payroll, you’ll need a few key details about your employees, such as:

  • Full name and address
  • Date of birth
  • Compensation details
  • Form W-4 (to determine tax withholding preferences)

If employees will be paid via direct deposit, you’ll also need their bank account information to set up payments.

Classify Employees Correctly

It’s essential to classify your workers properly. Employees fall into two categories:

  • W-2 Employees: These are your regular employees who work under your direction. You’ll handle all tax withholdings and benefits for them.
  • 1099 Contractors: These workers are independent and are not subject to the same tax withholdings as W-2 employees.

Correct classification helps avoid legal issues and fines.

Understand Exempt vs. Non-Exempt Status

Employees are either “exempt” or “non-exempt” based on their job duties and salary:

  • Exempt employees usually receive an annual salary and are not entitled to overtime pay.
  • Non-exempt employees are typically hourly workers and are entitled to overtime pay based on the hours they work beyond the standard 40-hour workweek.

Be sure to evaluate each position carefully to determine whether they qualify as exempt or non-exempt according to the Fair Labor Standards Act (FLSA).

Choose a Pay Schedule

Decide how often you’ll pay employees. Common schedules are:

  • Weekly
  • Bi-weekly
  • Semi-monthly
  • Monthly

Your state might have specific rules about how often you must pay employees, so check your state’s regulations to avoid any issues.

How Do You Calculate Payroll?

Now that you’ve gathered the necessary information, it’s time to calculate payroll. Here’s what to keep in mind:

  1. Calculate Gross Pay: For hourly employees, multiply their hours worked by their hourly rate. For salaried employees, divide their annual salary by the number of pay periods in the year (e.g., for bi-weekly pay, divide by 26).
  2. Account for Deductions: Payroll isn’t just about paying wages. You’ll need to deduct taxes and other contributions, such as:
    • Federal, state, and local taxes
    • Social Security and Medicare taxes
    • Employee benefit deductions like health insurance premiums or 401(k) contributions

Subtract these deductions from the gross pay to determine the employee’s net pay or take-home pay.

How Do You File Tax Withholdings?

As part of running payroll, you’ll need to report the amounts you’ve withheld from your employees’ paychecks. This is done quarterly using Form 941, the Employer’s Quarterly Federal Tax Return. This form reports federal income tax, Social Security, and Medicare taxes.

Failure to file this form on time can result in fines, so be sure to submit it on schedule.

What Methods Can You Use to Pay Employees?

Once you’ve calculated net pay, it’s time to actually pay your employees. You can choose from a variety of methods:

  • Paper checks
  • Direct deposit (a preferred option for many)
  • Paycards (prepaid debit cards)
  • Advanced pay (giving employees money ahead of time)

Be sure to choose a method that’s reliable and timely to prevent delays that could affect employee morale.

Additionally, ensure you follow your state’s rules for providing pay stubs, whether physical or digital.

What Records Should You Keep?

As part of your payroll responsibilities, it’s essential to keep accurate records. This includes time cards, employee schedules, and any deductions or changes to wages. These records should be kept for at least three years to ensure compliance with labor laws.

Can You Run Payroll Yourself?

Yes, you can manage payroll yourself! Some business owners use paper-based methods, while others prefer payroll software to automate the process. However, it can take a lot of time and effort. A study by QuickBooks found that business owners typically spend nearly 5 hours each pay period on payroll tasks.

If you want to save time and avoid the risk of errors, many businesses opt to outsource payroll to a professional service. Outsourcing can help you focus on growing your business while ensuring payroll is handled accurately and on time.

Getting Started with Payroll

Now that you have an understanding of the basic payroll process, you’re ready to get started! Follow these steps to set up your payroll system correctly. If you prefer to leave payroll in the hands of experts, there are services that can help, offering features like seamless integration with your other business systems, paperless payroll options, and 24/7 security.

Whether you choose to run payroll yourself or outsource it, staying organized and complying with legal requirements is key to running a successful business.

We hope this guide helps you feel confident in setting up payroll for your business. Happy paying!