What Is a Professional Employer Organization (PEO) & How Does It Work?
Heather is a staff writer and payroll specialist with several years of experience working directly with small business owners. Her expertise allows her to deliver the best answers to your questions about payroll.
This article is part of a larger series on Payroll Services.
A professional employer organization (PEO) is a co-employment alternative for small businesses that want to offer human resources (HR), payroll, and competitive employee benefits. A PEO acts as the employer of record (EoR) for payroll and tax purposes; however, it shares employee-related responsibilities and legal aspects with the company.
As the legal employer, the PEO files withholding taxes, pays unemployment insurance taxes, and provides workers’ compensation coverage. Meanwhile, for everyday business decisions, such as marketing, customer service, or directing what work gets done, you still maintain complete control.
If you’re looking to get started with a PEO right away, consider partnering with Rippling. It provides payroll compliance and tax processing, benefits, HR support, workers’ comp, time and attendance, and consulting services. Additionally, you can start with a PEO and transition to Rippling’s HR services with just a click of a button.
How a PEO Works
Small businesses are pooled together in a PEO, providing leverage to negotiate better rates on insurance (as PEOs have established partnerships with large insurance companies). That helps them negotiate more and better benefit plans and services than a small business could on its own. Therefore, PEOs can offer an extensive array of services at reasonable prices such as commuter benefits, 401(k) plans, and workers’ compensation insurance.
PEOs can be certified or non-certified. Learn more in our What Is a Certified PEO? article.
Features & Benefits of a PEO
- Co-employer: As a co-employer, a PEO works with you. It is very much like having your own HR, benefits, and payroll department, without the overhead cost of hiring an in-house HR specialist.
- Benefits negotiation: Because PEOs work as co-employers for hundreds of companies, they can negotiate group rates that save you money while offering employee benefits in multiple states.
- HR benefits: Typically, a PEO will provide:
- Payroll processing, including tax filing and compliance
- Medical, dental, and vision benefits
- New hire paperwork and employee onboarding
- Terminations and offboarding, including COBRA for benefits
- Retirement savings plans like 401(k)
- Legal compliance: A PEO provides tax and legal services, including:
- Compliance with state and federal employment law
- ACA-compliant health insurance plans at group rates
- Workers’ compensation
- Labor law posters
PEO Costs
PEO costs vary based on headcount, as they charge a percentage of each employee’s salary or a flat rate per employee. Given that, their charges can run from under $100 a month per employee to tens of thousands of dollars a year. Joining a PEO can start as low as $39 per employee per month with a vendor like Justworks, whereas others might cost over one hundred dollars per month for each worker.
PEO membership fees depend primarily on the average compensation of your employees and other variables, like the number of employees and service offerings (whether you choose to offer or contribute to employee benefits and if self-service options are provided to your employees, for example).
Some of the other fees and pricing factors that may affect your PEO costs include:
- Setup fees
- Training and consulting fees
- Monthly service fees
- Health insurance premium contributions
- Workers’ compensation premiums
- Other company-sponsored benefits
PEOs with more comprehensive services can charge up to 11% of payroll, making them a bit pricey for the typical small business owner. Some PEOs’ prices are based on your business’s credit rating, workers’ compensation risk level, and health benefits history. Depending on those factors, one employer might pay twice what another employer pays for the same services.
Business Legal Compliance & PEOs
PEO services offer more than just back-office paperwork processing for HR and payroll. As a co-employer, a PEO ensures your company complies with state and federal labor laws and uses HR best practices. That’s to your benefit—helping you and the PEO avoid risk. They’re certified in HR and have the tools and experience to maximize employee effectiveness while minimizing risk. They know HR laws, and their systems are programmed with tax tables and compliance tools to help you avoid legal mistakes or fines.
Since a PEO is co-employment, your business and the PEO share the legal responsibility for your employees. However, anything that could raise HR-related legal issues—like safety, labor law compliance, or employee discrimination—is where a PEO will standardize procedures for you.
What to Consider Before Working With a PEO
Before you partner up with a PEO, you should consider if your business will benefit from it, the pros and cons of having a PEO, and the top providers you can work with. These will help you determine if a PEO is right for your business.
Business Types That Benefit From PEOs
PEOs are ideal for smaller businesses that don’t have in-house HR, benefits, or payroll expertise and those that want to offer benefits and reduce their employment risk and labor costs. By using a PEO, a small business can provide employees with all the perks larger employers offer. Due to legal compliances, however, some PEOs will not work with high-risk industries such as certain construction companies. Therefore, you would need to consult the PEO directly to see if you qualify.
Specifically, here are the kinds of businesses that may find a PEO serves them well:
- Startups that want to provide employees with full benefits
- Small businesses that want to keep their workers’ comp costs low
- Forward-thinking companies that want to improve their employee experience, employment brand, and ability to recruit top talent
- Any small business that wants to ensure accuracy without hiring HR and payroll experts
- Any company that wants to reduce compliance risk
Pros & Cons of a PEO
A PEO can offer many benefits to a small business looking to improve its HR services, but there are drawbacks to consider as well. You should understand the pros and cons before moving forward.
| PROS | CONS |
|---|---|
| Helps your business grow: Makes it easier for you to add and manage employees | You may feel a loss of control: The co-employer has a stake in how you manage employees and will need to be consulted on hiring, terminations, and HR changes |
| Reduces compliance risk: Assists you in managing labor law and tax compliance | Not all HR work is eliminated: You’ll still manage employee schedules and performance feedback, as well as serve as the onsite contact for your staff |
| Improves employment brand: Helps you attract and retain employees | You may lose tax savings: If you currently receive tax benefits for health insurance provided through the government-run SHOP Exchange, you’d lose those. |
| Fewer headaches: Reduces your administrative overhead and back-office paperwork | Lack of healthcare options: While a PEO may offer a large array of healthcare options, employers and employees are limited to the carriers and plans the PEO chooses |
Top PEOs for Small Businesses
To learn more about PEOs and find out if they’re right for you, then a look at the best ones can help you decide. Check out our reviews on the most popular PEOs for small businesses.
PEO | BEST FOR | PRICING | STANDOUT FEATURES |
|---|---|---|---|
Small businesses needing a low-cost, high-functioning PEO | Starts at $49 per employee, per month |
| |
IT and tech-heavy businesses | Starts at $35 plus $8/employee |
| |
Companies wanting a unique benefits package | Custom pricing |
| |
Growing businesses or those that want the experience of a larger PEO | Custom pricing - Starts at about $85, based on a quote we received |
|
When it comes to PEO providers, the options can be overwhelming. Our guide to the best PEO companies provides information and pricing comparing several of the best professional employer organizations for small businesses.
What To Know When Joining a PEO
To join a PEO, you will go through an application process in which the PEO will assess your company’s liability to make sure it wants to partner with you as a co-employer. The process of joining can take anywhere from three to six weeks.
There are a few qualifiers a professional employer organization will look for, including:
- The financial and credit situation of your business such as your business credit score
- Whether you’ve had any workers’ compensation claims in the past (if you work in a high-risk environment, you’ll likely be charged a higher workers’ comp rate)
- The percent of employees likely to participate in benefits and any benefits usage trends
- Your current employment practices and how compliant they are
As a co-employer, the PEO will also need access to information about your employees. So expect to show them I-9s, W-4s, and W-9s for all your workers, as well as any other demographic and identifying information, such as the age of your workers, whether they’re hourly or salaried, and in what states they work.
If you do enlist a PEO but change your mind, you can follow our guide that walks you through how to leave a PEO and things to consider when doing so.
PEO Alternatives
If you are still unsure if a PEO is right for you, several alternatives offer tiered services to give you the HR, payroll, or benefits administration you need. You will remain the employer of record; however, you can outsource HR and payroll services to help with paperwork and compliance.
- HR software maintains employee files and assists with HR compliance. In addition, some offer payroll services and consulting for an additional fee.
- Payroll software is used to calculate paychecks but may not provide HR support and consulting services. You, as the employer, maintain employee files.
- Payroll services offer payroll processing and administer your employee data and compliance. Many also provide employee benefits and consulting.
Consider HR and payroll software programs such as Gusto or Zenefits. They offer HR and payroll compliance features without the co-employment commitment. Ultimately, you should choose the payroll service that best fits your needs.
Bottom Line
A PEO can be an excellent option for a small business owner wanting to provide a wide range of benefits to their employees and willing to pay for peace of mind and reliable HR and payroll services. A PEO takes the legal burden off the business and assists with HR issues that the company may not be internally equipped to handle.
We at Fit Small Business believe the benefits of using a PEO outweigh the costs, which is why we use one ourselves. By offering big company benefits, a PEO helps attract and retain better talent.
