What is payroll?
Payroll is more than paying employees for work over a specified period; it refers broadly to the entire payroll management process. This includes acquiring the necessary employee information for each person on your payroll, as well as calculating hours, wages, deductions and net and gross pay.
Payroll does not typically include freelancers or contractors. In addition to defining your payroll policy, you’ll also need to determine who is responsible for managing payroll and which payroll system you choose to use.
The meaning of payroll in HR
Some businesses opt to outsource their payroll needs to accountants or bookkeepers, but many task payroll management to their human resources department. In such businesses, HR is responsible for collecting the necessary information and forms from employees.
The accounting department or payroll division is responsible for calculating wages, taxes and benefits. Some businesses use payroll software to streamline their payroll process.
Information about payroll
To ensure compliance with state and federal regulations, it’s important to understand the following documents and information about payroll:
- Employee information
- Hours worked
- Salaries, wages and gross pay
- Deductions and withheld amounts
- Net pay
Employee information
When you hire employees, they need to complete a Form W-4 before they can be added to your payroll. This form provides information such as name and address, federal income tax withholding amounts and Social Security number. Form W-4 doesn’t expire and should be kept in your records. For accuracy and compliance purposes, it’s a good idea to review these forms with your employees each year in case their income or exemption statuses, and therefore their withholding amounts, have changed.
New hires should also complete an I-9 form and, in some cases, a direct deposit authorization form.
Hours
The way that a business tracks hours may vary according to the type of employee. If your employees are paid hourly, then you’ll need to keep track of all hours completed so as to pay them accurately. Hours are also important to consider for overtime, as many employees are entitled to such pay under the Fair Labor Standards Act. You may choose to design a schedule that anticipates employee hours and overtime.
It’s not usually necessary to keep track of salaried employee hours. Exceptions might include salaried employees who are nonexempt from the FLSA and, as such, may still be entitled to overtime pay.
Consider your time-off policies as well. It’s important to keep track of hours taken off for vacation, sick time and holidays so that employees receive the amounts they are entitled to according to your business’s policy.
Salaries, wages and gross pay
Payroll employees are paid either according to salary or wages. Some may also receive tips, commission or bonus pay, which are often included when distributing pay.
Salaried employees are given a yearly salary, which is then distributed according to your payroll schedule. This formula is straightforward: (annual salary) / (pay periods per year) = gross pay. For example, an employee who earns $60,000 annually and is paid on a monthly schedule would receive $5,000 monthly.
For hourly employees, gross pay varies according to hours worked.Pay can be calculated with the following formulas:
- Normal rate: (hourly rate) x (total hours worked during pay period) = gross pay
- Overtime rate: (1.5 x hourly rate) x (total number of overtime hours during pay period) = overtime gross pay
According to these formulas, an hourly employee who works 40 regular hours and 10 overtime hours at $20 per hour would earn a gross pay of $800 regular + $300 overtime.
Total gross pay for employees is the sum of either their salary or hourly wage plus any tips, commission or bonus pay. Some businesses also pay benefits such as tuition assistance, which should likewise be included when determining gross pay.
Deductions and withheld amounts
Deductions refer to the amount subtracted or withheld from employee wages. Much of this information, like federal withholding amounts, will be informed by the employee’s W-4. Common deductions include:
- Federal income tax
- State income tax
- Local tax
- Medicare and Social Security
- Workers’ compensation contributions
- Post-tax garnishments for overdue debt
Net pay
Net pay refers to an employee’s pay once all taxes and deductions have been subtracted from their gross pay, and therefore represents the amount of money an employee actually receives following payroll processing. The IRS usually requires businesses to report both gross and net pay amounts. An employee’s bank, loan or credit services are usually more interested in net pay than gross pay.
Steps to run payroll
Once you understand payroll components and have the necessary documents and information, you can run payroll. Typical payroll steps include the following:
- Define payroll policies and procedures, including payroll schedule, payment method, vacation and benefits
- Collect necessary employee documents
- Calculate gross pay according to hours and benefits
- Calculate deductions
- Calculate net pay
- Pay employees via direct deposit, checks or other options
- Maintain records
