How to Set Up an Efficient and Accurate Payroll System

by Mike Price | Updated Aug. 5, 2022 - First published on May 18, 2022

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A small business owner wearing a mask and hanging an Open sign on the front door of her shop.

Image source: Getty Images

The Ascent’s guide to creating processes to complete payroll correctly and on time every time.

In every growing small business, there comes a time when you can’t do everything yourself. So, you hire a few employees -- maybe someone to do clerical work at first, or a laborer for jobs you can’t get to -- and voila, now you need to learn how to do payroll.

Later on, your company grows so big that it isn’t feasible to handle payroll yourself, and you need to trust someone else to take over.

In this article, we’ll go over the best way to set up a simple payroll system to efficiently and accurately complete payroll on time. We'll also create a system that can easily be completed by a new employee with a little training.


Overview: What is a payroll system?

A payroll system is the set of processes you must perform to complete payroll for small businesses. Ideally, the system includes tasks that need to be done when a new employee is hired and the repeatable tasks done each pay period, such as inputting time cards and submitting relevant info to the IRS and other third parties.

What are the phases of the payroll process?

Small business payroll is done in three phases: preparing to pay employees, submitting the necessary information to make the payment, and filing the back-up.

1. Prepare

The first step in the payroll process is to prepare for all the payments that you need to make. It includes entering in time cards for hourly employees, the pay period amount for salaried employees, and calculating deductions, such as FICA, withholding tax, and 401(k) contributions.

Before making the payments, make sure to perform a payroll reconciliation to ensure all numbers are correct.

2. Submit

The next step is to upload ACH files to your bank account for direct deposit payments and uploading information to third parties. That information includes IRS tax withholding numbers, workers’ compensation reports, and 401(k) contributions for the period.

3. File

The final step is to file all source data for the period. That data includes timecards, copies of paystubs, withholding calculations, proof of uploaded material, IRS forms, and payroll journal entries.

Your future self will be grateful for this when doing quarterly reporting or if an employee thinks that they have been underpaid.

What are the benefits to having an efficient payroll system for your small business?

Creating and sticking to systems has many benefits. Here are a few for payroll management.

1. Pay accurately and on time

The No. 1 way to get your employees to start looking for a new job is to pay late or not pay the correct amount. A good small business payroll system will have checks and balances to ensure that all numbers are correct every time.

2. Reduction of fines

Underpayment or late payment of taxes will lead to fines and underpayment or late payment of insurance premiums or 401(k) contributions could lead to cancellation of policies and a lot of unhappy employees.

3. So easy anyone can do it

It’s natural to want to do payroll yourself at first. You avoid the potential drama of employees discovering what others make and also control how much is paid each week. Eventually, the job will become too big, and you’ll want to pass it along to an employee or to a payroll processing firm.

Design your process to be easy enough for a new person to take it over. A good example payroll system can be completed by following a clear set of documented steps. You shouldn’t have to reference 63 different spreadsheets and data tables to make it work.

4. Simplify tax preparation

Reporting and paying taxes is a key employer payroll function. Employers are responsible for withholding and paying the employee portion of FICA and income tax and for paying the employer portion of FICA.

If you have a disorganized payroll system, the pay period and quarterly reporting of this information will take far longer and could lead to overpayment.

How to begin setting up a payroll system for your small business

Getting started with an employee payroll system takes a good amount of busy work, but learning how payroll works and creating good processes is worth it.

Step 1: Start accounts

Here are a few accounts to set up:

  • The Electronic Federal Tax Payment System (EFTPS): Use the EFTPS website to register an account for your business to submit withholding and FICA taxes and quarterly unemployment payments each pay period.
  • State payments: Go to your state’s secretary of state website to see what payments you are required to report and pay each quarter. Many states require payments for unemployment insurance, state income tax withholding, workers’ compensation, and excise taxes.
  • Workers’ compensation: If your state does not monopolize workers’ compensation insurance, speak with your insurance agent about starting an account and what classes your employees fall under.
  • Payroll software: Good payroll software will do the majority of payroll functions for you. It has easy access to all data, has an onboarding process, allows employees to keep their time, and integrates with your accounting software.
A screenshot of the IRS EFTPS webpage.

Use the EFTPS to submit withholding and FICA taxes each pay period. Image source: Author

Step 2: Create an onboarding process

On a new employee’s first day, collect and file all forms. This includes government forms like the W-4 and I-9, the employment contract, the employee handbook for your business, explanation of benefit programs, and key employee information such as contact info and birthdate.

A good onboarding process speeds up every step after it in the process.

Step 3: Set up payroll process

Once you have all your accounts set up and employees onboarded, you can create the process. Determine the logical order of tasks and document it with a checklist covering each step.

It helps to keep all resources in one area. You might even download a different browser to use for payroll only, or create a bookmarks folder in your existing browser.

Create a payroll folder on your shared drive that has subfolders for blank forms, completed forms, upload data, historical timecards, and source information for tax reporting.

Don’t forget about checks and balances. Have a supervisor approve timecards. Check numbers with different sources before submitting. Make sure the person responsible for doing the payroll each week takes a week or two off every year so you can check for embezzlement.

Step 4: Start doing payroll

Now you’re ready to do your work payroll. Keep your files up to date and stick to a routine of getting payroll done at the same time each period.

Keep on the lookout for newer and better software and benefit plans, and ask for feedback from employees on your timekeeping software or 401(k) options.

What’s my wage again?

Don’t be the business owner who scrambles every two weeks to get paychecks out while three clients are on hold. Create and implement a straightforward payroll process, and you’ll be able to pass the responsibility on when you need to.

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