How do you calculate payroll costs?

The Milestone Team December 13, 2022

Payroll processing can be one of the more mundane and time consuming parts of running a small business. Many small business owners report spending up to ten hours on payroll a month. It’s a time sink, but it is important for the financial data of your business. Commissions, bonuses, contract workers, hourly wages, outsourced labor, taxes, etc. all muddy the water. The process can leave business owners wondering how they can take payroll services off their plate or make the process easier. 

What is the simplest way to calculate payroll costs?

The easiest way to calculate payroll costs is payroll software. Most payroll softwares will allow for time entry tracking, PTO, tax calculations, and different types of pay models. The advantage of using a payroll software is that it can easily grow with you. On the other hand, maintaining a spreadsheet as your company gets larger and more complex can create a heavy workload for you or one of your employees. 

How to calculate payroll expenses.

These 5 steps are both how payroll software calculates your payroll and how you can calculate it manually.

  1. Determine Total Time: For hourly employees, this would be the number of hours worked in a given period of time. It’s important to separate overtime hours from non-overtime hours. For salary employees, this would be the set number of hours in a period based on the contract, regardless of the actual hours worked. Salaried employees typically have the same total time for every pay period. 
  2. Calculate Gross or Total Pay: Hourly employees would add these two calculations together: # of hours worked during the period * hourly wage and # of overtime hours * 1.5 * hourly wage. Salary Workers would add these 5 factors together during a pay period; Salary / # of annual pay periods, Commissions, Tips, Bonuses, and Employer provided benefits.
  3. Determine payroll deductions: There are 3 main payroll deductions. These can be either pre-tax or post-tax; Retirement contributions, Child support payments, Insurance premiums, Other payroll deductions include union dues, commuter benefits, parking permits, or wage garnishments
  4. Calculate taxes: 1. Federal income taxes: 2. State income taxes: Each state is different, so it is important to know the regulations for each state you have an employee in and file for the proper registrations in that state, 3. Local income taxes, 4. Social Security: This is a 6.2% tax on the employee toward their government retirement fund. Businesses must also pay 6.2% on top of what the employee pays. This is true for any employee that makes under $147,000. 5. Medicare: This is a 1.45% tax that also gets matched by the business. 6. Make sure to subtract non-taxable income before calculating taxes. This includes things like a hotel or car rental reimbursement. 
  5. Take the total in step 2 and subtract steps 3 and 4. In other words, gross pay – deductions – taxes.

After following these steps for all of your employees, you can calculate your total payroll costs as a company and apply the payroll cost percentage formula to see what percentage of payroll each employee is getting paid. The formula is employee cost / total payroll cost * 100%. This can be done for both gross and net costs. 

This is a lot of calculations to do by hand which is why we recommend a low-cost payroll software for small businesses. 

How to calculate the total cost of an employee.

The total cost of an employee is their salary + benefits + bonuses. You could also include the cost per user on internal systems or the overhead cost divided by the number of employees. It’s important to not leave out employee equipment costs, but dividing overhead costs is not essential for total cost. 

How Milestone can make payroll simple

Working with Milestone is like putting your payroll service on autopilot. Our experts are knowledgeable, efficient, and resourceful. They can handle nuances in your payroll structure, and our team keeps each other up to date with local and federal changes in compliance. You will have the confidence to know your payroll is being done right. Contact us today to get started.

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