If your business has employees, you’ll have to do payroll. There’s no way to avoid it. But, what exactly is payroll?
Well, payroll can mean a few different things:
- Payroll refers to the employees you pay, along with employee information.
- Payroll is also the amount you pay employees during each pay period.
- Or payroll can refer to the process of actually calculating and distributing wages and taxes.
Let’s dive deeper into the parts of payroll.
The parts of a payroll program
What is payroll composed of on a micro-level? In this section, I’ll break down employee information, hours worked, salaries and wages, payroll deductions, and net and gross pay.
Before you can begin to run payroll, you need to collect some information from your employees. Every employee needs to fill out Form W-4. This form will provide you with information about each employee’s federal income tax withholding exemptions, along with their names, addresses, and Social Security numbers. You need all of this information to properly run and distribute payroll.
Every time you hire a new employee, they will need to fill out a Form W-4.
If you have hourly employees, you have to keep track of the hours they work. This will ensure you pay your employees the proper amount.
If you have salary employees, you may want to track the hours they work to make sure they are putting in all of their time.
You may also want to track the time your employees take off work for vacation, sick time, and holidays. This is important if you have a policy that says how much time employees are allowed to take off.
Salaries and wages
A salary is a fixed amount that you can pay an employee. Typically, an employee is given a yearly salary, which is then divided by the number of pay periods in the year.
For example, you give an employee a yearly salary of $28,600. You pay the employee every week, which means the weekly paycheck will be $550 before deductions ($28,600 / 52 weeks).
A wage is what you pay an employee based on the hours worked. You will set a specific rate of pay for each hourly employee. To calculate an employee’s total wages, you will multiply the rate of pay by the number of hours the employee works.
For example, you pay an employee $12 per hour. The employee worked 34 hours this week. You will owe the employee $408 before deductions ($12 x 34 hours).
All nonexempt employees should receive overtime pay. This includes both nonexempt hourly and salary workers. Overtime hours typically begin after an employee works 40 hours in a week. Overtime pay is one-and-a-half times the normal rate of pay.
Fringe benefits are a type of compensation. Benefits can include education assistance, health insurance, retirement plans, and employee discounts. Any benefits you offer should be included in payroll. Some benefits are taxable.
Your employees could have additional sources of pay. Service workers may receive tips. Employees must report all tips to you. Tips are subject to taxes. You may also choose to pay your employees a commission or a bonus. You should include commissions and bonuses when you run payroll.
A deduction is any money you subtract from an employee’s total wages.
You will deduct payroll taxes from the wages of every employee. The amount you withhold from each employee will vary depending on total earnings and how many withholding allowances the employee claims.
Payroll taxes include federal income tax, state income tax, local income tax, federal unemployment tax, state unemployment tax, Medicare tax, and Social Security tax.
A garnishment is a court-ordered deduction. A garnishment is used to pay off an employee’s overdue debt. You could be instructed to deduct money from an employee’s paycheck to pay for unpaid taxes, defaulted loans, and overdue child support. If you need to deduct a garnishment, you will receive a notice from a court.
Net and gross pay
You will show an employee’s net and gross pay on a pay stub. Gross pay is an employee’s total pay. IRS forms typically ask for an employee’s gross pay.
Net pay is an employee’s pay after all deductions are subtracted. Net pay is an employee’s take home pay. Banks and other loan providers typically want to know someone’s net pay.
Options to run payroll
You have three main options when it comes to running payroll.
- Do payroll by hand. You will have to learn how to do payroll. This option will be the most time-consuming for you. The IRS provides tax tables that you can use to calculate federal income tax withholding (found in Publication 15).
- Use a payroll accountant. Outsourcing payroll to a payroll accountant could free up some of your precious time. The account will take care of the entire payroll process for you. However, this option might be the most expensive.
- Use a payroll software. Most payroll software is inexpensive. Software for payroll automates a lot of your payroll program, meaning you spend less time doing payroll. Payroll business software can calculate wages and taxes, and some will even turn in the taxes for you.
There are numerous parts to consider when running payroll. Whether you are a new or seasoned employer, understanding payroll is important. First, learn about the parts of payroll. Then, find a way to run payroll that helps you get back to running your business.
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This article was updated on 11/30/2015. (Original publish date: 1/10/2011.)