One of the key roles for Professional Employer Organization (PEO) consultants is helping clients analyze their current internal workforce management costs. A detailed financial analysis allows them to identify savings opportunities and accurately compare current spending to proposed PEO fees.
Example: Recently, a 50-employee client with $1 million in gross annual payroll tapped a PEO consultant to guide them through a comprehensive evaluation of their major workforce expenses. Here’s a look at the process and findings:
Payroll Taxes
The consultant started by capturing the company’s full payroll tax obligations, which included:
Social Security: The taxable wage base limit for 2023 is $160,200, with a tax rate of 6.2% on the first $160,200 of each employee’s earnings. For an organization with 50 employees, this resulted in an estimated Social Security tax of $496,600 annually, equaling 49.66% of their gross payroll.
Medicare: With no taxable wage base cap, the 1.45% Medicare tax rate is applied to all earnings. With average employee earnings of $50,000, their total taxable payroll was $2.5 million. This resulted in total Medicare taxes of $36,250, or 3.63% of gross payroll.
Federal Unemployment (FUTA): The 0.6% FUTA tax rate applies to the first $7,000 of each employee’s earnings. For 50 employees, this equaled $2,100 in tax, or 0.21% of payroll.
State Unemployment (SUI): With an average SUI rate of 3.0%, their $1 million in taxable wages incurred $30,000 in state unemployment taxes, or 3.0% of payroll.
In total, payroll taxes represented over 56.5% of the organization’s gross payroll expenses. This significant expense is one area a PEO can use economy of scale to provide savings.
Workers’ Compensation Premiums
Next, the consultant analyzed their workers’ compensation insurance premiums. Based on their class codes and carrier rates, their annual workers’ comp costs were estimated at $13,500, or 1.35% of gross payroll. A PEO can leverage its sheer size to negotiate lower comp rates, reducing this burden.
Payroll Processing Fees and HR Consulting Costs
In addition to taxes, the analysis factored in costs for payroll administration and HR. At $6 per employee per month, their payroll processing fees totaled $3,600 annually, or 0.36% of payroll. HR administration costs like HRIS system access and support came to $7,200 for the year, or 0.72% of payroll. While not the largest expense item, outsourcing these administrative tasks to a PEO can streamline processes and allow for labor savings.
Health Insurance and Benefits Spending
For many organizations, health insurance represents one of the most significant workforce expenditures. This client’s total annual health premiums were $120,000, with the employer portion equaling $84,000, or 8.4% of their gross payroll. When ancillary benefits like dental, life, and disability insurance are added in, their total benefits reached nearly $102,000 annually, or 10.2% of payroll.
The PEO model offers opportunities for savings through pooled rates across a much larger population of employees. A consultant can conduct in-depth comparisons of plan design and pricing to identify the optimal solution.
Employer Liability Insurance Expenses
The final area assessed was the organization’s liability insurance costs, which consisted of premiums for policies like employment practices liability, directors and officers, and commercial general liability coverage. Their annual liability insurance premiums totaled $22,000, or 2.2% of gross payroll. PEOs often have the capabilities to include client companies in master policies at significantly reduced rates compared to stand-alone policies.
Total Expenditures on Workforce Management
After a comprehensive analysis of the company’s major workforce expenses — including payroll taxes, workers’ compensation, benefits, liability coverage, payroll administration, and HR costs — the total internal price tag amounted to approximately 71.37% of gross annual payroll.
While some areas like payroll taxes are fixed, a PEO has opportunities to drive savings in benefits, workers’ comp, liability insurance, and the outsourcing of administrative burdens. A reduction of just 5-10% of payroll costs through a PEO partnership would result in sizable dollar savings that can be reinvested in strategic priorities.
Key Data for Comparing HR and PEO Proposals
While the analysis provided an accurate baseline of the company’s current internal expenses, the consultant recommended collecting several additional data points to conduct an apples-to-apples comparison of their costs versus proposed PEO fees.
These supplemental details included:
- A breakdown of health insurance premiums by plan type, coverage tier, and employee demographics to accurately calculate PEO pricing
- An inventory of all ancillary benefit plans with enrollment levels and costs to compare to PEO bundled offerings
- Policy renewal timelines, deductibles, and liability coverage details to evaluate PEO insurance savings
- Analysis of recent payroll audits and HR systems costs to quantify compliance and technology advantages under a PEO
- Staffing statistics like internal payroll and HR headcount to measure the labor cost savings from outsourcing to a PEO
With this expanded view, a detailed cost-benefit model can be constructed to size up the potential savings and value of shifting workforce management responsibilities to a PEO partner.
Summary: PEO Provides Savings Through Economies of Scale
For organizations looking to reduce overhead costs and reinvest in growth, this example illustrates the potential for PEOs to meaningfully lower workforce expenses through consolidation and economies of scale. While payroll taxes and obligations are fixed, PEOs open the door to savings in big-ticket areas like benefits administration, workers’ compensation, and liability insurance.
But accurately sizing up these savings requires an in-depth analysis of current workforce spend across all categories using gross payroll as a benchmark. A PEO consultant’s job is to guide clients through this assessment and make objective data-driven recommendations on the value of partnership.
