How To Do Payroll Yourself For Your Small Business
Whether manually or with the help of payroll software, you can easily calculate and process payroll yourself. We'll teach you both payroll methods with this simple step-by-step payroll guide.
Doing your own payroll may seem daunting, but there are many ways to do it. You just have to choose the one that works best for you. Learn how to do payroll yourself and explore the pros and cons of manual DIY payroll versus using payroll software.
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Should You Do Payroll Yourself?
Small business owners can absolutely do their own payroll manually. Doing payroll yourself is an affordable payroll solution that lets you be actively involved in the ins and outs of your payroll. However, the DIY payroll route does take a lot of time and can run the risk of errors.
Here are the pros and cons of doing payroll yourself.
Let’s you be in control
Offers greater visibility into payroll costs
Suitable for very small businesses
Takes time & dedication
Can add stress
Greater room for errors
The Advantages Of DIY Payroll
- It’s Cheaper: When you outsource payroll, you incur an extra cost. That cost will depend on the kind of business you are running and the number of people on your payroll, but when you are running a small business, every penny counts. If you just can’t justify the expense of outsourcing Payroll, you can do it yourself using free resources available.
- You Stay In Control: Small business owners often fear losing control of their business. A third-party payroll provider may not do things the way you want them done. Doing it yourself allows you to maintain total control of your business operations.
- You Know What’s Going On: Doing it yourself provides a good opportunity to understand everything about your payroll process and payroll taxes.
The Disadvantages Of DIY Payroll
- It Takes Dedication: Successful DIY payroll depends directly on the effort of an individual. If you can’t take care of it for some reason that month, it won’t be taken care of.
- There’s A Significant Time Commitment: Doing your own payroll means sacrificing your own time. Time is the only resource that is even scarcer than money in the small business landscape, and there is an automatic cost to doing payroll yourself.
- Lots Of Room For Error: You might get it wrong or incur too much stress. If you are not a naturally detail-oriented person, doing your own payroll might cause more stress than its worth — and put you in a position of liability when you get things wrong.
At the end of the day, it is a question of whether you have more money than time or more time than money. What is the opportunity cost? Is there another option that can ultimately give you better results?
If the DIY payroll route still seems right for you, keep reading to learn exactly how to process payroll manually or jump ahead to learn how to do your own payroll with the help of payroll software.
How To Do Payroll Yourself Manually
In order to successfully do payroll manually, you’ll need to be prepared with the proper employee information and pay extra detail to your payroll calculations. These 11 steps on how to do payroll yourself can help guide you through organizing, calculating, and processing your payroll correctly.
- Prepare the proper tax documents
- Have your EIN number handy
- Gather employee information
- Choose your payroll schedule
- Track time
- Calculate gross pay
- Subtract withholdings, deductions, & allowances
- Calculate net pay
- Pay your employees
- Keep strong payroll records
- Don’t forget to file & pay payroll taxes
1) Prepare The Proper Tax Documents
The 1-9 form is a requisite for verifying the identity of your employees as well as their employment availability. Every new hire must fill out this form during the onboarding process.
Your employee fills in the first part and you fill in the second part. New employees must furnish you with a document of identity, which could be their Passport, Green Card, Birth Certificate, Social Security Card, or Alien Registration Card.
Employees should fill out their own W-4s to document withholding tax (tax that the employer withholds from their salaries and pays to the government directly).
2) Have Your EIN Number Handy
An EIN is your Federal Employer Identification Number. This number is provided to you by the IRS. If you are a new business or company, you’ll need to request one from the IRS.
3) Gather Employee Earnings Information
Depending on your type of business and how it is run, you will need lots of information about your employees and their earnings. All of the following contribute to the overall labor burden of each employee:
- Gross Pay: First, you must calculate their Gross Pay, which is what they earn before any money is deducted. For salaried employees, Gross Pay is the yearly salary. For employees who earn an hourly wage, gross pay can be found by multiplying their hourly wage by the number of hours worked. Generally, contractors and freelancers tend to be on an hourly wage.
- Net Pay: Net Pay is what your employees earn after all deductions, including taxes and copays.
- Overtime: This is money that employees earn for going beyond regular working hours. For example, a typical full-time employee gets overtime when they work more than 40 hours.
- Bonuses: Employees get bonuses based on certain performance goals. A bonus has nothing to do with working hours or salary. It is a one-time reward for good performance. Bonus money is taxable.
- Tips: Some employees, typically in the service industry, earn money from tips. Tips are rewards for good service and they typically come from customers or clients. You need a Payroll system to track tips because they too are taxed.
- Commissions: Some employees earn on commission: a percentage of money from each sale they make. The IRS taxes the income of commission-only employees like any other supplemental income.
- Paid Time-Off: Paid time-off is not necessarily synonymous with vacation days; it is used any time an employee is still earning although they have taken time off for medical leave, family leave, personal days, or paid vacation time. Your payroll system should reflect any adjustments to a paycheck depending on the time-off policies. You should also consider offering other leave options besides sick leave and vacation leave. Have a plan for maternity leave, paternity leave, and family leave, for example. Your employees should know as much as possible about your time-off policies, including whether they will be earning a regular rate for their paid time-off or not. They should also know what happens to unutilized time-off when the year ends. Note that the laws on paid leave are not the same in every state. You have to look up what the rules say in your own state.
- Benefits: Benefits are extra incentives above and beyond salaries and wages. These benefits may include workers’ compensation, life insurance, dental, medical insurance, Family Medical Leave Act laws, unemployment taxes, and time off to exercise civic responsibilities such as voting, serving in the military, or jury duty.
- Retirement: Retirement plans are some of the incentives that promote employee retention, like a 401K.
4) Choose Your Payroll Schedule
Businesses pay their employees weekly, bi-weekly, semi-monthly, or monthly. Each payroll schedule has its own benefits and drawbacks and you have to choose the right pay schedule for you.
Your choice of payroll schedule might be influenced by the industry you are in or the state in which you are operating.
5) Track Time
For employees who earn an hourly age or a salary, you need to track the hours they have worked. A payroll system should have the capacity to track employee working time.
6) Calculate Gross Pay
Gross Pay is the total amount of money that each employee earns before deductions. This means before things like taxes are deducted from the Pay. A simple tool like Excel can be used to calculate gross pay by multiplying the hours worked, including overtime, by the pay rate/hour.
7) Subtract Withholdings, Deductions, & Allowances
Once you have the employee’s gross pay, you can calculate the deductions on each employee’s pay as well as their allowances. Understanding payroll deductions can be tricky, so take a look at our complete payroll deductions guide to make sure you’re doing everything properly.
8) Calculate Net Pay
To calculate net pay, subtract all the deductions from the employee’s gross pay.
9) Pay Your Employees
Pay your employees via direct deposits, checks, or any other method that works for both you and your employees.
10) Keep Strong Payroll Records
Putting together your payroll records at the end of the year can be a nightmare if you have not been documenting them faithfully. Update records throughout the year on a regular basis to avoid this nightmare.
11) Don’t Forget To File & Pay Payroll Taxes
Creating a payroll system requires the right tax documents from employees. Thankfully, today’s digital way of doing business reduces the amount of paperwork required.
Here are some of the tax forms you’ll need:
- W-2: The W-2 form details information about all wages for the year and the taxes withheld.
- W-4: Your employees will fill a W-4 form detailing the amount of tax that they expect will be withheld from their salaries. These withholding allowances will help you run the Payroll correctly.
- 1099: The 1099 is for freelancers and contractors to track their income. No taxes are withheld.
- Schedule C: This is a profit/loss report for Sole Proprietors and Independent Contractors to file with the IRS. It is a profit-loss or income statement for calculating self-employment tax.
- I-9: The 1-9 form verifies the identity of your employees as well as their employment availability. Employees should fill it as soon as they start working for you. The 1-9 form is filled by both the employee and the employer. You need the employees’ formal identification papers.
- 940: Declare your payroll annually in a 940. This form details how much all your employees have earned and how much went into unemployment taxes.
- 941: File a 941 form annually. It has information about what you have paid your employees during the year and how much you withheld for social security taxes, income taxes, and Medicare. File the form and remit the money you withheld to the IRS.
- 944: Small businesses that withhold less than $1,000 in payroll taxes in a year will need to file a 944 form with the IRS.
Should You Use Payroll Software?
There is a middle ground between outsourcing payroll entirely and doing it yourself manually — using payroll software. Using payroll software gives you the visibility and control of the DIY payroll route, without having to spend so much time manually calculating payroll (or miscalculating and then fixing payroll). Once you feed a payroll software app with all the relevant information, all you have to do is to hit the ‘pay’ button and the whole process is taken care of for you.
Plus, when you use payroll software, you get a payroll guarantee, which means that any penalties caused by tax mistakes will be on the software provider, and not on you.
There are some obvious advantages and disadvantages to using payroll software.
Maintains control & visibility
Still affordable & cheaper than outsourcing payroll
- Payroll guarantee
More expensive than DIY payroll
Initial time investment
The Advantages Of Using Payroll Software
- Maintain Control: Since you are not hiring a consultant, you are still retaining control over the details of your payroll. You or your in-house employee will be creating and viewing the reports as well as paying the employees and taking care of taxes.
- Cheaper: Paying for payroll software is much cheaper than hiring a consultant or a company to do your payroll.
- Quicker: Payroll software will do the job faster than you or anyone else would have done it.
- Increased Security: Your financial information is much more secure because you have control over it. You can access your information anytime you want it. The payroll software safely stores the information.
The Disadvantages Of Using Payroll Software
- It Takes Longer: On the other hand, using a payroll solution will take longer – at least initially – when you are still learning how to use the software properly. A mistake on your part could cost you hours to fix. Of course, once you have mastered it, the process gets infinitely faster.
- Monthly Costs: Although payroll software is cheaper in the long run, there are some upfront costs that can be relatively high depending on the range of services. You also have to budget for annual fees.
- Time Investment: When you first begin with a payroll software program, you have to invest plenty of man-hours in learning how the software works.
How to Do Your Own Payroll Using Payroll Software
Good payroll software offers a fairly seamless and automated payroll process that not only handles the administration of pay, but also the processes of onboarding employees, as well as filing payroll taxes both quarterly and annually. So how do you do payroll yourself with payroll software? While the payroll setup process can be a bit involved, once you get your account up and running, processing your payroll is quick and easy.
Here’s how to get started:
- Choose the right payroll software
- Add company & employee information
- Track time
- Process payroll
- Don’t forget to file & pay payroll taxes
1) Choose the Right Payroll Software
There are many great small business payroll software options. Here’s what to consider when picking the best payroll option for your business:
- Analyze the unique needs of your business before settling on a payroll software app. Each payroll program has its own range of features. A full-service payroll app takes care of payroll, filing taxes, or even HR functions like keeping track of employee benefits and tracking time.
- Consider the size of your company when choosing the right payroll software for you. Some products are tailor-made for microenterprises while others are more suited to mid-sized companies.
- Look into payroll software designed for your specific industry. A payroll app made for your industry will serve you better than one that isn’t. Hospitality companies, for example, have their own unique needs that may be different from those of companies in a different niche, like education, or manufacturing.
- Some payroll software products are designed to be customizable to your business requirements. Consider one of these as long as you have the ability to use them with relative ease.
- Choose software that is compatible with your level of accounting knowledge. Some are specifically designed for non-accountants and they are therefore easier to learn. Others are more complex and present a steeper learning curve.
- Purchase software that is compatible with the tools you already have. For example, you might want to use one that is compatible with QuickBooks or Square, if that is what you are already using.
- Find something that fits within your budget. If the whole point of working with a payroll program is to save money, then you definitely want something that is priced reasonably for you.
2) Add Company & Employee Information
As an employer, you require accurate and current information on each employee to process payroll accurately. For each employee, you’ll need the name in full, spelled correctly, as well as their Social Security Number, their jurisdictions (both lived-in and worked-in), and their correct address.
For your company, you’ll need information about tax IDs, and any additional tax information required.
You’ll also need to enter any employment forms, like the EIN, W-4, and the 1-9, into the software.
3) Track Time
A full-service payroll system takes on payroll calculations, deductions, check printing, tax support and tax filing, time tracking, and paid time off.
If you are not dealing with full-service payroll software, you may have to do without time tracking, among other features. Simplified payroll services are cheaper and have fewer features.
Decent payroll software should take care of regular time tracking, as well as PTO tracking, together with other features like paying contractors and employees, paying vendors, garnishing wages, online processing, filing taxes, paying vendors, and W-2 preparation and distribution.
4) Process Payroll
Processing your payroll involves a series of actions. You must determine your employees’ wages and salaries, choose a pay schedule, calculate their taxes, withhold payroll taxes from their paychecks, deliver paychecks to the employees with the correct net pay after withholding the right amounts of money, remit taxes to the government, and provide employees with their W-2 or 1099 paperwork.
You may have a combination of employees and contractors on your payroll:
- Employees are individuals over whose workload, paycheck, and working relationship you have control.
- Contractors are individuals who are working with you for a specific period of time, according to a contract you have agreed upon. Contract employees are supposed to withhold their own tax. It is not your responsibility to withhold it. Your work is done as soon as you have paid them.
5) Don’t Forget To File & Pay Payroll Taxes
All the money that you withhold from the earnings of your employees for the purpose of remitting tax to the government falls under the umbrella of payroll taxes.
You pay taxes to federal governments and the states. The money you withhold as payroll tax is a percentage of your employee’s gross earnings. You have the responsibility to manage these taxes from employee salaries and wages. If you have contractors on 1099, they will manage their own payroll taxes.
Choosing The Right Payroll Processing Option For Your Business
There are three ways to go when it comes to payroll. The first is to do it yourself manually. The second is to do it yourself but use a payroll software solution. The third way is to hire an accountant or an accountancy firm to do it for you.
Doing payroll manually demands the greatest time investment. It also exposes the entrepreneur to the risk of making costly errors. Go with manual payroll if you don’t want to spend any money on payroll, you have some understanding of taxation and accounting (or you are naturally meticulous and good with numbers), and you have the time to spare. Manual DIY payroll works best when you have a smaller number of employees. The larger your team and the more complex your payroll needs, the harder it is to do.
Using payroll software still require some time investment from you, but it most likely won’t take as much time as the first method. If you don’t have any accounting or taxation skills, you need to choose a simple app — one that is designed for amateurs. If you are not familiar with taxation and payroll in general, the learning curve will not be as steep since many of the processes are automated.
When you are dealing with a more complicated business payroll, you might want to consider option three: hiring an accountant. An accounting consultant will handle everything, including running payroll, monthly remittances, and paystub requests.
Whichever option you go with, make sure you feel comfortable and check out our other payroll resources:
- The Best Payroll Practices For Small Businesses
- What Is Hazard Pay & Should You Be Using It?
- The 10 Best Employee Benefits Every Employer Should Offer & Why