How to Set Up Payroll for the First Time: A Complete Small Business Guide

Hiring your first employee is a major milestone — and it comes with real obligations. Get payroll set up correctly from day one to avoid penalties and protect your new hire. Here's everything you need to do.

Step 1: Obtain Your EIN (Employer Identification Number)

Your EIN is your business's tax identification number with the IRS — required to hire employees, open business bank accounts, and file taxes.

• Apply online at IRS.gov — free, takes 15 minutes, receive EIN immediately
• You need an EIN even if you're a sole proprietor with employees
• Apply before your first payroll date

Step 2: Register with Your State Tax Agency

Each state has its own employer registration:

• State income tax withholding — Register with the state revenue or taxation department
• State unemployment insurance (SUI/SUTA) — Register with state workforce agency
• Local taxes — Some cities and counties require local registration (Philadelphia, New York City, etc.)

Registration timelines vary. Many states require registration within 30 days of first hire.

Step 3: Collect Required Documents from New Employees

Form W-4 (Federal Withholding)

• Every employee must complete before first paycheck
• Used to determine federal income tax withholding
• Updated W-4 (2020 format) no longer uses allowances — uses dollar amounts

Form I-9 (Work Authorization)

• Verify identity and work authorization
• Section 1: Employee completes on or before first day
• Section 2: Employer verifies documents within 3 business days
• Must physically examine documents (or use authorized representative for remote employees)

State Tax Withholding Form

• Most states have their own equivalent of the W-4
• Some states accept federal W-4; others have separate forms

Direct Deposit Authorization

• Collect bank account and routing numbers if offering direct deposit
• Obtain signed authorization

Step 4: Choose a Payroll Schedule

Common options:

| Schedule | Pay Periods/Year | Best For | |----------|----------------|----------| | Weekly | 52 | Hourly workers, construction | | Bi-weekly | 26 | Most small businesses | | Semi-monthly | 24 | Salaried employees | | Monthly | 12 | Small businesses, very small payrolls |

State requirements: Many states mandate minimum pay frequency by occupation (e.g., hourly workers must be paid at least weekly in some states).

Best practice for most small businesses: Bi-weekly (every two weeks) on Friday.

Step 5: Determine Your Payroll Tax Deposit Schedule

As a new employer, you start as a monthly depositor (deposit by 15th of following month).

As you grow, the IRS may reclassify you as a semi-weekly depositor based on your lookback period tax liability.

Step 6: Set Up Your Payroll System

DIY Payroll Software

• Cost: $30–$100/month
• Examples: Gusto, QuickBooks Payroll, ADP RUN, Paychex Flex
• Best for: 1–10 employees with straightforward situations
• Risk: You're responsible for accuracy and tax deposits

Payroll Service Provider

• Cost: $50–$200/month + per-employee fees
• Handles: Payroll processing, tax deposits, W-2 filing
• Best for: 5–50 employees who want compliance assurance
• We recommend this for most small businesses

PEO (Professional Employer Organization)

• Cost: $100–$200/employee/month
• Handles: Payroll, taxes, HR compliance, benefits, workers' comp
• Best for: Growing businesses wanting comprehensive HR support

Step 7: Calculate Your First Payroll

For each employee, you'll need to calculate:

Gross Pay

• Hourly: Hours worked × hourly rate
• Salaried: Annual salary ÷ pay periods
• Don't forget overtime for non-exempt hourly workers (1.5× for 40+ hours/week)

Withholdings

• Federal income tax – Use IRS Publication 15-T withholding tables based on W-4
• Social Security – 6.2% of gross wages (up to $168,600/year in 2024)
• Medicare – 1.45% of all wages
• State income tax – Per state table
• Other deductions – Health insurance, 401(k), garnishments, etc.

Employer Payroll Taxes (Your Costs, Not Withheld)

• Social Security match: 6.2%
• Medicare match: 1.45%
• FUTA: 0.6–6% on first $7,000
• SUTA: Varies by state

Step 8: Report New Hires to Your State

All new hires must be reported to your state's new hire registry within 20 days (some states require faster).

This helps the state:

• Collect child support through income withholding orders
• Detect unemployment fraud

Step 9: File Required Quarterly Reports

• Form 941 – Employer's Quarterly Federal Tax Return (due within one month of quarter end)
• State quarterly wage report – Most states require quarterly wage reports for SUTA

Step 10: Year-End: W-2s and Annual Filings

• Issue W-2s to employees by January 31
• File W-2s with SSA by January 31
• File Form 940 (FUTA annual return) by January 31
• Form W-3 (transmittal of W-2s to SSA)

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Setting up payroll correctly from the start prevents years of costly corrections. If you'd like a partner to handle it for you — from registration through year-end — our team is ready to help.