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What is a PEO and how can it help small businesses?

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Let’s face it – having employees can be a hassle. On top of payroll and HR issues, employers also have to deal with taxes and an ever-growing maze of state and federal regulations. For small and mid-size businesses, generally with an average of 20 employees, these issues can become a burden. At the same time, companies often need employees in order to grow. A Professional Employer Organization (PEO) offers a solution. So, what is a PEO? And why use a PEO? Keep reading to learn more about how PEOs work and what businesses should consider before using a PEO.

What are Professional Employer Organizations?

PEOs are Professional Employer Organizations. The term co-employment is also used. A company can enter into a contract with a PEO to share employment responsibilities and participate in employee leasing.

Although many people are not familiar with PEOs, the arrangement is actually fairly common. The National Association of Professional Employer Organizations (NAPEO) says that there are 487 PEOs in the U.S. The PEO industry employs four million people and provides PEO services to 173,000 small and mid-sized businesses.

What HR services do PEOs provide?

PEOs can provide a wide range of services related to being an employer. According to NAPEO, this often includes payroll, benefits, HR, tax administration and regulatory compliance assistance.

Why Use a Professional Employer Organization?

Hiring and managing employees requires significant resources.

According to the Small Business Administration (SBA), before a company can hire an employee, it needs to set up payroll. This is a multi-step process that includes getting an Employer Identification Number, determining whether state or local tax IDs are needed, getting employees to complete the necessary W-4 forms, creating a pay schedule that coordinates with tax withholdings, creating a compensation plan for holidays, vacations and leave, reporting payroll taxes, learning which records need to stay on file, and more.

That’s just for payroll. Employers also need to navigate the Family and Medical Leave Act, the Americans with Disabilities Act and other state and federal regulations. They also need to comply with state workers’ compensation requirements. Plus, if they want to offer employee benefits – which can be necessary if companies want to compete for top talent – even more work is needed.

A business owner who decides it’s time to add employees may not be able to manage all this alone. According to the U.S. Bureau of Labor Statistics (BLS), a human resources specialist typically has a bachelor’s degree and earns a median pay of $62,290 per year. Creating an HR department, even a small one, can be a major expense.

A PEO offers a simple solution. Instead of handling employment matters in-house, the company can outsource HR, payroll, benefit and employee regulation compliance to a PEO company.

PEO Contracts

Not all PEO contracts are the same, and companies can choose the PEO terms that meet their needs.

According to SHRM, depending on the PEO contract in place, either some or all of the company’s HR functions can be outsourced. Additionally, companies can choose an administrative services outsourcing (ASO) agreement if they want to outsource benefits without entering into a co-employment agreement.

The Advantages of Using a PEO

Hiring employees is a big undertaking, and it’s one that many smaller companies may have trouble navigating. Managing employees and all the tasks that go along with employees can also be very expensive. If companies make mistakes that result in fines and lawsuits, the expenses can mount quickly.

According to SHRM, PEOs can offer significant advantages, and small employers with limited HR resources are especially likely to benefit.

This assistance may even help small companies grow. NAPEO says that small businesses that work with a PEO grow seven percent to nine percent faster than small companies that don’t. Additionally, their turnover is 10 percent to 14 percent lower, and they are 50 percent less likely to go out of business. NAPEO estimates that PEOs offer a return on investment of 27.3 percent in cost savings alone.

Are there drawbacks to using a PEO?

PEOs can be a great option for small to mid-size employers that lack the resources and expertise needed to manage employee matters effectively. However, PEOs are not a good match for all companies.

Some employers may prefer to have direct control over their employees. If the company has a strong HR department, entering into a co-employment agreement might not make financial or practical sense.

Alternatives to PEOs

Small to mid-size companies that are thinking about hiring on workers for the first time, or that are struggling to manage the workers they already have, may be interested in learning about alternatives to PEOs.

Some companies may wonder if they can avoid employment arrangements altogether and instead choose to work with independent contractors. This can be a complicated issue. It’s true that companies do not need to withhold payroll taxes for independent contractors, and independent contractors do not usually receive benefits. Additionally, many employee protections do not cover independent contractors, so regulatory compliance may be easier. However, companies can not simply reclassify employees as independent contractors in order to avoid HR duties. According to the Department of Labor (DOL), worker misclassification is a serious problem. Companies that misclassify workers as independent contractors may face lawsuits and penalties, so make sure your workers meet the criteria for independent contractors before taking this route.

If you decide you need to have employees but you do not want to enter into a co-employment agreement, there are other ways to outsource HR tasks. Look for a company that provides the employee benefit and HR services that you need.

Deciding Whether to Use a PEO

Should you use a PEO? There’s no simple answer to this question. Before deciding whether a PEO co-employment arrangement is right for you, ask the following questions.

  • Does your business need employees? Make sure you understand the legal differences between employees and independent contractors.
  • Do you have the in-house resources necessary to manage employment matters? Consider who will be in charge of handling hiring, payroll, benefits administration and regulatory compliance issues, and how much time this will likely require. If you have an in-house HR department that can manage employees, you may not need the assistance of a PEO.
  • Do you need additional employee benefits and HR services support? If you don’t need a co-employment arrangement, but you do need some support, you may be able use a PEO or another provider of HR services.
  • Which strategy is the most cost-effective? Consider how much using a PEO will cost and compare this to the cost of managing employees in-house. When calculating in-house costs, consider all the time and resources that will be needed, as well as the risk of regulatory issues.

A PEO can be a good option for some small and mid-size companies that want to out-source employment matters and lease employees. If your company needs support with employment matters, Higginbotham may be able to provide what you need. We can help you develop an employee benefits package. We also offer HR services, including HR outsourcing, HR consulting and payroll services. Learn more.

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