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Hiring Your First Employee
Hiring your first employee can be a daunting experience. Many entrepreneurs delay their first hire too long for fear of complicated paperwork, regulations, and other registration requirements. As a result, those entrepreneurs spend far too much time on activities that do not contributed directly to the growth of their businesses.
While there certainly are some administrative hoops to jump through on your way to becoming an employer, they may be less complicated or difficult than you suspect. The paperwork and registrations required for becoming an employer and hiring your first employer can be easily accomplished in less then half a business day.
Presented here are the basic steps to becoming an employer and links to the resources you'll need. (Since government forms are updated from time to time, we have provided links to those agencies' download pages rather than providing the option to download forms directly from this site.)
Is it Time?
Many owner-operators struggle with the issue of when to hire their first employees. The quick answer is that it’s time when the absence of that employee is holding back the performance or growth of the company. Do you find yourself spending too much time on activities that someone else can be doing and, as a result, not spending enough time on things that only you can do (such as marketing the business or performing the work that actually generates income)? Is your health or family life suffering from the extremely long hours you must work to make sure everything gets done? If these issues sound familiar to you, it’s time to seriously consider hiring your first employee.
Benefits & Drawbacks
The major benefit of hiring an employee is that it increases the capacity of your business, freeing you as the business owner to devote a higher percentage of your time to doing the things that only you can do. The less time you spend answering the phone and purchasing office supplies, the more time you can spend on billable work or generating new business.
New employees can also bring additional capabilities to your business, creating the opportunities for new profit centers.
Finally, a new employee can bring both energy and perspective. Many new employers are invigorated by the opportunity to return to the activities that they love best and the creativity and perspective that a co-worker-as-sounding-board can provide.
Drawbacks include, of course, the cost of wages and salaries, payroll taxes, and any employer-supplied benefits. The administrative burdens of managing an employee and handing payroll also require some time and effort, but much of payroll administration can be outsourced affordably.
A more important drawback for many would-be employers is the responsibility to manage, motivate, and pay the employee. Many business owners choose not complicate their lives and businesses with all that goes with becoming an employer. In doing so, however, they must realize that their decision also dramatically limits the company’s ability to grow, or even perform to acceptable limits.
Can You Afford It? (Can You Afford Not To?)
For some new employers, the answer is obvious – business is so good that they clearly need more staff just to keep up with the demand for their goods or services. The sooner their staff expands, the sooner their sales will increase.
For other would-be employers, however, things are not nearly so clear cut. Often an expansion of payroll means a direct reduction of the owner’s personal compensation, at least temporarily. Use a spreadsheet to develop monthly profit and loss projections for your company, based on historic performance and the assumption that you’ll continue as the sole staff member. Then, adjust the projections for new payroll and also any expected increase in sales that would be enabled by the new staff member. You may find that the cash flow of your company is already strong enough to fully support the addition of your first employee.
If you will be at, slightly below, or slightly above break-even with the new payroll, you may want to investigate establishing a line of credit with your bank. A line of credit is a good idea for many businesses, to insure coverage of unforeseen monthly shortfalls that occur for any reasons. Having some excess financial capacity can give you the peace of mind of knowing that you can cover payroll even if sales are low for a particular month. (A line of credit is not a long-term solution to cover continuing losses, but can be an ideal tool to deal with unpredictable accounts receivable collection periods or seasonal sales cycles.)
Finally, consider the costs of not hiring that first employee. If your sales have been flat and at or near your break-even point, things are unlikely to change without some change to your approach to doing businesses. Also, some business owners overwork themselves to such an extent that they become physically unable to operate their companies or generate income. Think about sharing the load before you burn out.
A. Before You Become an Employer
1. Federal Employer Identification Number (IRS Form SS-4)
Every employer must have a Federal Employer Identification Number (EIN). Most businesses obtain this number when they begin operations - long before they become employers. If you haven't obtained an EIN, you can get one quickly, and at no charge, from the Internal Revenue Service at www.irs.gov.
2. Obtain State Unemployment Insurance Number
As an employer, you will need to pay Unemployment Insurance Tax on your employees’ salaries and wages. The first step is obtaining a Maryland Unemployment Insurance number from the Maryland Comptroller’s Office. Use the Maryland Combined Registration Application to do so.
There is no federal Unemployment Insurance number. The federal forms will utilize your Federal Employer Identification Number instead.
3. Set-Up Tax State Withholding Account
Employers are required to deduct income tax from employees’ wages and salaries, as they are earned. These withheld taxes are then remitted to the federal and state governments at least once each month. You will need to establish your state withholding account, again using the Maryland Combined Registration Application to do so.
4. Workers Compensation Insurance
Employers in the State of Maryland are required to obtain workers’ compensation insurance from any insurance company licensed to write workers’ compensation insurance, the Injured Workers’ Insurance Fund, or by becoming a self-insured employer (requires prior approval of the Workers’ Compensation Commission).
5. Workplace Posters
Employers must post, in the workplace, information regarding employee rights, workplace safety, and labor law. All posters are available free from the state and federal governments and can be downloaded from agency websites. A single, large laminated poster combining all required postings can also be purchased online or from office supply stores.
B. Recruiting & Hiring
1. Job Description
The next step is to develop a good, detailed job description for the position. The description will help you attract the right candidates, increase the efficiency of the interview process, help hired workers understand their responsibilities, and help you evaluate their performance.
2. Identify Prevailing Wage & Salary Rates
Frederick County Workforce Services can help you identify local and regional prevailing wage and salary levels for comparable positions in your industry.
3. Posting Job Openings/Finding Candidates
There is an abundance of places to post your job openings for a fee or for free. Think about the types of candidates you wish to attract and how they gather information. Post it where they’ll see it.
Narrow the responding candidates to the top few. (Check references!) Schedule interviews and devote enough time for each interview for you to learn about one another. (There are certain issues that you are not allowed to ask about, such as age, heritage, religious affiliation, and others – make sure you know what they are. You can find them at the Department of Labor, Licensing & Regulation website listed below.)
C. Registering and Reporting New Hires
1. Withholding Information
Every employee must provide an employer with a signed federal (Form W-4) and state (Form MW507) withholding exemption certificate on or before the date of employment.
2. Employment Eligibility Confirmation
U.S. employers must check to make sure all employees, regardless of citizenship or national origin, are allowed to work in the United States. All new employees must complete a federal Form I-9. (The direct URL for the online download of the form is too lengthy to include here, but you can access a link to it via the link posted below.)
3. Reporting New Hires
Federal and state law requires employers to report newly hired and re-hired employees in Maryland to the online Maryland New Hire Registry, within 20 days after the employee begins work.
D. Managing Payroll and Employment Files
All tax rates and taxable income limits presented here are valid as of December 2007, but many are subject to annual changes.
1. Withholding Tax
“Withholding tax” is actually a combination of a few taxes, withheld. These taxes are paid by the employees. Employers are required to deduct these taxes from employees’ wages and salaries, as they are earned. These withheld taxes are then remitted to the federal and state governments at least once each month. Currently, withholding taxes can be deposited monthly in an “authorized depository” (in other words, a bank) and then remitted quarterly to the IRS and Maryland Comptroller’s Office. They can also be paid monthly, directly to these government agencies via electronic funds transfer. By the end of 2008, the IRS reportedly plans to phase out the deposit-payment option in favor or an all-electronic-transfer arrangement. You may wish to begin using the electronic transfer method now.
a. Income Taxes
The amount of federal and state income taxes withheld is based on the employee’s wages and salary rates and the withholding exemptions reported on the employee’s W-4 and MW507 forms.
b. Social Security (FICA)
Calculated at 6.2% of each employee’s wages and salary up to $97,500 of income.
Calculated at 1.45% of each employee’s wages and salary, with no upper limit on taxable income.
2. Overview of Payroll Taxes
In addition to withholding and submitting EMPLOYEE-paid income taxes, you will be required to pay payroll taxes, at your own expense, based on the amount you pay your employees. These taxes will be:
a. Unemployment Tax
Each employer also must pay State (SUTA) and Federal (FUTA).Unemployment Taxes. The proceeds from these taxes are made to finance benefits payments to workers who lose their jobs, through no fault of their own, while they search for new employment. The amount that you pay in SUTA taxes affects the amount you must pay in FUTA taxes.
Maryland Unemployment Insurance Tax (SUTA)
For the current year, 2007, the Maryland Unemployment Tax (SUTA) on gross salaries and wages range from 0.3% to 7.5%, based on the employer’s “experience rating.” The rate for the first employee of a business is 2.4%. These experience rates are reset each year based on the amount of UI benefits paid to separated, eligible employees. SUTA taxes are paid quarterly on the first $8,500 of each employee’s annual pay.
Federal Unemployment Insurance Tax (FUTA)
6.2% of the first $7,000 of each employee’s annual pay, less any SUTA taxes already paid in the tax year. Paid quarterly.
b. Employer’s Share of Social Security (FICA)
Employers must match the employee’s Social Security tax (6.2% of income up to $97,500 per year), for a total Social Security contribution by employer and employee of 12.4%. Paid along with withheld taxes.
This equals 1.45% of an employee’s pay (An equal amount is deducted from the employee’s pay, withheld by the employer, and submitted to the government along with other withheld taxes.) Unlike the Social Security and Unemployment Insurance taxes, there is no maximum wage base for the Medicare portion of payroll tax. Paid along with withheld taxes.
3. Managing Payroll In-House
Computer accounting packages such as QuickBooks and Peachtree enable business owners to handle payroll administration in-house. The programs automatically calculate withholding and payroll taxes and generate paychecks and payments to withholding and payroll tax accounts. Regular updates help insure that tax rates and other regulated calculations are up-to-date.
4. Outsourcing Payroll Management
Accounting firms, bookkeepers, and payroll services can handle all the administrative burden of payroll management, including management of new hire forms, withholding and payroll tax deduction and payment, and the generation of actual paychecks. Most providers charge a flat monthly or per-paycheck fee. The services can save the business owner a lot of administrative time and effort and can be surprisingly affordable.
5. The Professional Employer Organization Approach
The Professional Employer Organization approach, often referred to as “employee leasing,” provides all of the benefits of outsourcing payroll administration, as well as a few other benefits that make it a very viable option for many companies.
Under employee leasing, a Professional Employer Organization, such as Checkmate, is actually the employer of record. (You will still interview, hire, manage people, and determine their pay levels.) The benefit to this approach is that a PEO has thousands, or tens of thousands, of employees placed in companies throughout the United States. The size of its organization enables the company to obtain volume discounts on workers compensation, health insurance, and other benefits. They pass part of these savings along to the “employers,” like you, who are their clients. As a result, some employers can not only avoid the administrative burden of handling payroll, they can also receive discounts on their workers compensation and other benefits. This enables many small employers to provide benefits like health insurance, when the small size of their staffs would otherwise make it prohibitively expensive.
6. Maintaining an Employment File
Start an employment file for every employee as a centralized place for important employment-related documentation. In addition to the standard employment paperwork such as completed job application and W-4 form, you could also keep records of praise and complaints from customers and managers, and records of any disciplinary actions against the employee. There are also some things not to put in a personnel file, including medical records.