What Is Payroll, Exactly?
Payroll is the process a business uses to calculate and distribute compensation to its employees. It covers everything from tracking hours worked and calculating gross wages to withholding the right taxes and issuing paychecks or direct deposits. Getting payroll right matters — mistakes can result in penalties, unhappy employees, and compliance issues.
Key Payroll Concepts You Need to Know
- Gross Pay: The total amount an employee earns before any deductions. For hourly workers, this is hours worked × hourly rate. For salaried employees, it's their annual salary divided by the number of pay periods.
- Net Pay: What the employee actually takes home after all taxes and deductions are subtracted. Often called "take-home pay."
- Pay Period: The recurring schedule on which employees are paid — weekly, biweekly, semi-monthly, or monthly.
- Withholding: The portion of an employee's paycheck held back by the employer to cover federal, state, and local income taxes, as well as FICA (Social Security and Medicare).
The Payroll Process Step by Step
- Collect employee information: Before running payroll, you need each employee's W-4 form (for federal withholding), state tax forms, banking details for direct deposit, and benefit elections.
- Track time and attendance: For hourly employees, accurately log hours worked each pay period. For salaried staff, confirm any exceptions like unpaid leave or overtime.
- Calculate gross wages: Multiply hours by the pay rate. Add any overtime, bonuses, or commissions for the period.
- Subtract pre-tax deductions: These include contributions to 401(k) plans, health insurance premiums, and FSA/HSA contributions. These reduce the taxable wage base.
- Withhold taxes: Calculate and withhold federal income tax (based on the W-4), Social Security (6.2%), Medicare (1.45%), and applicable state/local taxes.
- Subtract post-tax deductions: Some deductions like Roth 401(k) contributions or wage garnishments come out after taxes.
- Issue payment: Pay employees via direct deposit, check, or payroll card on the scheduled payday.
- File and deposit taxes: Remit withheld employee taxes plus the employer's matching share to the IRS and state agencies on the required schedule.
Common Pay Period Options
| Pay Schedule | Frequency | Pay Periods Per Year | Best For |
|---|---|---|---|
| Weekly | Every week | 52 | Hourly workers, construction |
| Biweekly | Every two weeks | 26 | Most businesses |
| Semi-monthly | Twice per month | 24 | Salaried employees |
| Monthly | Once per month | 12 | Small teams, contractors |
Employer Responsibilities Don't Stop at the Paycheck
Running payroll also means you're responsible for matching Social Security and Medicare taxes (another 7.65% on top of what you withhold), paying federal and state unemployment taxes (FUTA/SUTA), and filing quarterly and annual tax reports like Form 941 and W-2s.
Getting Started
For most small businesses, the easiest path is using dedicated payroll software that automates calculations, tax filings, and direct deposits. If your workforce is small and straightforward, many affordable tools can handle the full process with minimal manual effort. We cover the top options in our Payroll Software section.