How to Do Payroll for Small Businesses (+ Video Guide & Template)
This article is part of a larger series on How to Do Payroll.
Handling small business payroll includes having to consider everything from setting up your business as an employer to paying your employees, tax agencies, and other applicable entities. When learning how to do payroll, there are several steps you must follow to ensure that you’re fully compliant with federal and state laws.
While small business owners tend to be well-versed in the product or service they offer, not everyone has the knowledge or time to tackle all payroll operations. For those small business owners, we recommend trying QuickBooks Payroll. It is an all-in-one payroll service that calculates payroll, files taxes and forms, and even offers HR tools. Click below to start a free trial.
If you’d rather learn how to do payroll yourself, follow our eight steps below. We’ve also prepared an instructional video and a free downloadable checklist to help you.
Thank you for downloading!
Payroll software like Gusto can set up a direct deposit for your employees. In addition, it provides a self-service option, so they can see their pay stub online or via their mobile phone once payroll is processed. That saves you from having to give them copies of their pay stubs or year-end tax forms. Your employees can use the mobile-optimized, self-service option to download the documents themselves.
Step 1: Set Up Your Business as an Employer
Assuming you’ve already established your business and applied for any required licenses, the first step in doing payroll is ensuring that your business has met all the legal requirements to operate as an employer. Consider any industry-specific payroll rules you may have to follow as well.
- Apply for a Federal Employer ID Number (EIN).
- Verify your state tax identification number is the same as your federal one; if not, determine whether you need to apply for one or if it’s automatically assigned.
- Sign up for an account with the Electronic Federal Tax Payment System.
- Start a bank account solely for payroll transactions (separate from your main business account).
- Sign up for any applicable state electronic tax payment accounts.
- Purchase workers’ comp insurance; most states require it.
Step 2: Establish Your Payroll Process
Now, you will need to make some decisions that will impact how you run payroll each period. You’ll need to determine what will work for your business so you can ensure your team is trained on the process properly.
Looking to make your payroll process management more efficient? Check out our top tips for effectively managing your payroll.
Explore the “why” behind each area. Be sure to consider the needs of both your employees and your business, in addition to any legal requirements.
- Pay schedule: Will you pay weekly, biweekly, or semimonthly?
- Types of employees (not contractors): Full time vs part time? Exempt vs nonexempt?
- Tracking work time: Will you need to track work hours? If so, how will you do it, and when will they need to be reported to you?
- Benefits: Will you be offering benefits? Who will pay for them? If employees are paying for them partially or in full, how will you manage the payroll deductions?
- Taxes: How often will you need to pay taxes, and which ones are you subject to? Will you need to pay state taxes? Local? Find out the rates in advance so you know how much to withhold.
- Payroll processing and calculations: Will you calculate and process payroll using Excel, by hand, with a calculator, or with a payroll service?
- Paychecks: Will you be cutting checks or paying via direct deposit? Pay cards? Cash?
You should also consider whether you want to use a payroll solution to help make the process easier; the right provider can be the difference between investing three days to run payroll vs an hour. To learn how easy it is to do payroll with some of our recommended software, check out provider-specific payroll guides below:
Step 3: Collect Your Employees’ Payroll Forms When Hired
You’ll need some important payroll documents from your employees to run payroll properly—and these are best collected during their onboarding. These include tax and work authorization forms, which the employees need to sign.
You’ll use the data on the forms described below to add the employee to your HR or payroll system if you have one. It’s a good idea to store this information as a paper document or an electronic personnel file.
A W-4 is the federal tax withholding document that tells you what tax rate to use for the employee. Collect a signed Federal W-4 form for tax withholding. You don’t need to submit this to the IRS, but you should store it in a paper personnel file or electronically.
The state tax withholding document is similar to the federal form and may be called by a different name in your state. Collect a signed State W-4 form for tax withholding and store it in a paper personnel file or electronically.
Collect a signed I-9 Form for work eligibility verification (within three days of the employee’s start date). You’ll want to make sure the employee can verify their identity and eligibility to work in the US with a passport or two forms of identification.
Get direct deposit information from employees via a voided check (if applicable).
Also, you’ll need to register your employee in your state’s New Hire Reporting Program (generally within 20 days). Make sure that you report all new or rehired employees to your state. Payroll software, like QuickBooks Payroll, often files these reports automatically.
For more state specific details on forms and employee onboarding, check out our state payroll guides:
State Payroll Directory
Step 4: Collect Time Sheets, Review & Approve
Now you’re ready to start collecting data on your employees’ work time to help determine how much you need to pay them. You’ll need to find the total hours worked for the period if you’re paying hourly employees. Salaried employees typically receive the same pay each period, but you can still track their work hours for visibility if needed. Calculating hours worked is as simple as having the employee write down their start and end times each day and counting up the hours—lunch breaks are not counted in the total.
Most businesses start with a simple time sheet. As they grow, they often move up to a time and attendance system or time clock to manage employee schedules, break time, and hours worked. Here’s an example of an electronic time sheet from one of our top-recommended free timekeeping vendors, Homebase.
Step 5: Payroll Calculations
Once you know how much an employee has worked for the pay period, you can start figuring out the important payroll calculations. That includes gross pay, taxes due, deductions for insurance premiums and other benefits, and final net pay.
Calculating Gross Pay
Calculating gross pay is as simple as adding up the straight time hours (up to 40 hours within a week) and multiplying by the employee’s hourly rate. Then, add up the overtime hours worked in the pay period and apply the employees’ overtime pay rate to those hours. Straight time is paid at the employee’s regular pay rate, while overtime is generally calculated at 1.5 times the regular rate of pay.
Calculating Payroll Deductions & Taxes
Doing payroll requires you to know in advance what payroll deductions you’re going to make. Deductions include federal and state payroll taxes, benefits you might offer, and things like unemployment insurance or Social Security.
Here’s a list of potential deductions with links to more information such as determining what to deduct for each employee. If you use payroll software like QuickBooks Payroll, deductions are processed automatically.
- Social Security and Medicare (FICA)
- Federal unemployment tax (FUTA)
- Deductions, based on:
- Benefits you offer employees, like health insurance
- Tax deductions based on employee tips
- Miscellaneous deductions such as a uniform expense
To process those deductions, add up all the deductions for each employee to get a total; then subtract that total from the employee’s gross pay. Alternatively, you can list each deduction as a line item and subtract them one by one from the employee’s gross pay until you come up with a net pay amount.
If you’re primarily struggling with the numbers side of payroll, our article on payroll calculations may be a better fit. Just be sure you also have a good grasp of the general steps you should take to run payroll.
Free Payroll Calculators
Use our calculators in the articles below to make doing payroll yourself even easier.
Gross Pay Calculator | Overtime Pay Calculator | FICA Tax Calculator
FUTA Tax Calculator | Time Card Calculator | PTO Accrual Calculator
Employee Mileage Reimbursement Calculator
For more help, check out our payroll calculation guide.
Step 6: Pay Employees, Tax Agencies & Benefits Providers
Once you subtract deductions from gross pay, you’ll know the net amount you need to pay each employee, including totals for employment taxes and benefits you need to pay out. Be sure to follow the pay schedule you initially set so employees always know what to expect (if you committed to paying wages every Friday, give yourself enough time to process).
Taxes and benefit providers have their own due dates. Many employers are required to pay these expenses monthly, but it can vary. You’ll need to pay out the amounts you withheld from your employees’ paychecks in addition to any employer payroll tax and premium amounts your business owes.
Always check before making any payments to determine whether you have enough funds in your payroll bank account. Spending more money than you have can result in unnecessary fees and litigation.
Step 7: Do Year-end Payroll Tax Reports
As the end of the year draws near, you’ll need to prepare to distribute year-end payroll tax reports. Employees must receive their W-2 forms by Jan. 31 of the following year, and the forms must show their total earnings and taxes paid. If you’re paying independent contractors, you’ll need to prepare 1099-NEC forms instead; this will show earnings but no taxes.
You can download these forms by clicking on the images.
Step 8: Document & Store Your Payroll Records
To remain compliant with federal labor laws, you’ll need to document specific data for each pay period. Retain payroll documents—like timecards, pay stubs, and any information regarding pay increases.
If you’re using software like QuickBooks Payroll, the documents are already online or can be uploaded and attached to the employee record. If you’re maintaining documents manually, you’ll want to ensure they’re stored securely.
If you’re still unsure about what payroll is, check out our guide to payroll for more information.
Learning how to do payroll can be a pain. You have to make sure your business registers with all the right agencies. You’ll also need to fill out forms for each employee and purchase workers’ compensation coverage, all on a tight deadline (less than 20 days for most states by law). Even seasoned business owners can get overwhelmed by the complexities of payroll compliance. That is why simple software solutions are the easiest and most time-saving options for business owners overall.