Operating a startup is complex. Founders and leadership teams need to juggle competing priorities, from seeking funding to managing the team to attending to an array of human resources, accounting, and administrative tasks. Operating a business that employs workers in multiple states is even more complicated: If your business is incorporated in Delaware and you want to hire remote employees in Maine, Nevada, and Arizona, the HR, accounting, and admin tasks quadruple. You’ll need to register with relevant agencies in each state and fulfill state-specific payroll and insurance requirements.
Head spinning yet? If so, you might consider a professional employer organization, or “PEO.” PEOs market themselves as a silver bullet for multi-state employers, making it easy for businesses to employ out-of-state workers and taking some of the human resources and accounting responsibilities off the founder’s plate.
Partnering with a PEO, however, isn’t always the right answer. While a reliable PEO partner can provide these (and other) benefits, retaining a PEO can be expensive, negatively impact employee experience, and leave your business liable for the provider’s mistakes. What’s more: Depending on your state’s laws, PEOs may not be able to streamline administrative overhead as much as you’d like them to. Whether or not you should partner with a PEO depends on your business size, internal capacity, and specific needs.
What is a PEO?
A professional employer organization (PEO) is a company that provides accounting, compliance management, and human resources support to businesses.
PEOs partner with businesses under a “co-employment agreement.” In this model, the PEO becomes the employer of record for its client company’s workforce, while the client company retains control of its workers’ core responsibilities, schedules, and salaries.
Essentially, it works like this:
- Your PEO employs your workers. As an employer of record, your PEO employs your workers for you. Your PEO’s name will appear on your employee’s paychecks, and your PEO will assume responsibility for collecting W2s, running payroll, and administering benefits.
- You manage your employees. Your company leases your workers from your PEO. While your PEO technically employs your workforce, you retain responsibility for day-to-day management and business decisions.
What a PEO can do
PEO services support human resources functions (like employee benefits administration and talent management) and accounting functions (like running payroll and withholding employment tax). Here’s a breakdown of what PEOs can do:
- Employ workers on your behalf. Because PEOs employ workers on behalf of your business, partnering with a PEO can make it easier to hire out-of-state employees—you won’t need to worry about registering your business in every state where you have staff. Some PEOs also allow businesses to employ international workers.
- Administer employee benefits. PEOs can provide and manage employee benefits and employee programs including health insurance, unemployment insurance, workers’ compensation insurance, retirement plans, and Family Medical Leave Act provisions.
- Support recruiting and hiring processes. A PEO can handle the administrative aspects of hiring and onboarding new employees, and some also support recruitment efforts.
- Process payroll. A PEO can administer your company’s payroll process.
- Withholding tax and unemployment insurance reporting. PEOs withhold social security and income taxes during the payroll process. In some states, withholding taxes and unemployment insurance can be filed under the PEO’s employer identification number (EIN).
- Provide human resources support. A PEO can give you access to a human resources business partner (HRBP), who you can call with questions. An HRBP can advise on workplace issues and support compliance with health and safety standards and employment law.
What a PEO can’t do
A PEO’s scope of work is limited to specific accounting, human resources, and compliance responsibilities. Even within that defined scope, there are administrative tasks related to taxes and insurance that they can’t do.
For starters, a PEO cannot manage your employees. Your PEO’s name might be on your employee’s paycheck, but you’re still the boss. Promotion and termination decisions remain with you, as does the responsibility to allocate work and coach and inspire your team.
They also cannot file all of your taxes. In some states, a PEO can file payroll tax and employment tax for your business, but they can’t file sales tax or an owner’s personal income taxes.
The limitations of a PEO also grow depending on which state you’re in. That’s because state laws vary on everything from insurance requirements to taxes to corporate regulations.
“Client-reporting” states require businesses to use their own EIN for taxes and unemployment insurance, rather than the PEO’s. That means if you use a PEO but you have employees in client-reporting states, you will have to register your own legal entity in those states, while the PEO uses their registered accounts in the PEO-reporting states. Client-reporting states vary by PEO and by state. Some PEOs are not set up to operate in every state, even though that state supports PEO reporting. Other states simply do not allow PEOs, like Washington, leaving anywhere from 20-30 states that a PEO does not cover that will need client-reporting.
“Monopolistic” states* require businesses to purchase workers’ compensation insurance from the state; PEOs are not allowed to provide a private insurer or handle this requirement on your behalf. That means you can’t get a lower rate on UI insurance, for example, by going through a PEO in these states.
On top of all that, Secretary of State compliance and overall corporate compliance remains the responsibility of the business, not the PEO.
Given these state-by-state limitations, a PEO can actually add rather than subtract complexity for multi-state employers.
*As of March 2023, the 4 monopolistic states in the US are: North Dakota, Ohio, Wyoming, and Washington.
Who can get a PEO and who can’t?
Technically, any company can use a PEO. Although individual PEOs may specialize in particular industries or business sizes, no rule prevents very large (or very small) businesses from working with a PEO.
That said, PEO services are generally thought to be valuable to small businesses with less than 50 employees—especially those with employees in multiple states. These organizations are large enough to have significant human resources and accounting obligations but may be too small to employ specialists in the relevant areas.
How much does a PEO cost?
PEOs typically use one of two pricing models:
- Flat fee. Flat fee PEOs charge a fixed price per employee. Rates typically run between $900 and $1500 per employee per year.
- Percentage of overall payroll. PEOs that use this model often charge 3-10% of a company’s total annual payroll per year.
Pros and cons of working with a PEO
PEOs are attractive to business owners because they can decrease administrative work related to employment, —but they do have limitations and drawbacks. Here’s an overview of the pros and cons of working with a PEO.
Pros of PEOs
- Employee benefits for a lower cost. Because PEOs serve as employers of record for their client companies’ workforces, they technically have large numbers of employees. A PEO can leverage a large organization’s buying power to secure quality employee benefits at a somewhat lower rate than those that a small business can secure. Discounts are usually no more than 20%.
- Access to support. Working with a PEO gives you access to a support system for human resources and payroll issues—and having a team of experienced HR and accounting professionals in your corner can increase your peace of mind.
- Time and cost savings. PEO services can save you hours on human resources and administrative tasks every week. They can also allow you to quickly hire out-of-state workers, eliminating the need to apply for registration in another state, wait for approval, and obtain a registered agent. A PEO’s finance and HR outsourcing services can also be cost-effective for some businesses—depending on your team size and specific needs, it might cost more to handle these tasks internally than to contract with a PEO.
Cons of PEOs
- Decreased control. Working with a PEO requires businesses to release control over employee benefits: You’ll be required to work with the PEO’s benefits provider and may have less flexibility in the plans you can offer your staff. The PEO will also hold payroll and human resources information, making it more difficult for businesses to access critical data.
- Reactive, rather than proactive support. PEOs tout access to HRBPs—human resources professionals whom you can call to ask questions or seek advice. But a PEO’s HRBP isn’t likely to give you a call to proactively let you know what you need to be thinking about. If you don’t know what questions to ask, compliance tasks can fall through the cracks—and you (not your PEO) will face the penalties.
- You remain liable. PEOs can make mistakes, and your company remains liable for any compliance violations. The IRS can also hold your company accountable for your PEO’s tax filing errors. To reduce this risk, consult the National Professional Employer Organization (NAPEO) for a list of IRS-certified PEOs (or CPEOs). Working with a CPEO protects you from the CPEO’s filing mistakes.
- Can be expensive—and you’ll likely outgrow it. The cost-benefit analysis for working with a PEO depends on your company’s size and growth stage. In-house approaches are usually cheaper, and larger companies can also save money by handling PEO responsibilities internally. If you do opt for a PEO when you’re small, you’ll likely outgrow it over time, and migrating off a PEO can cause you administrative expense and effort in the future.
- Limited capabilities in certain states. A PEO’s capability to handle administrative tasks related to state taxes and mandatory insurance is not guaranteed—it’s dependent on the laws in your state. Client-reporting and monopolistic states limit a PEO’s ability to file taxes on your behalf and provide lower rates on mandatory insurance.
Alternatives to a PEO
You don’t need to partner with a PEO to efficiently manage compliance, payroll, human resources, and employment obligations. Consider the following alternatives:
- Keep it in-house. There’s no rule against going it alone. Handling your own employer obligations keeps you deeply involved in every aspect of your business. It also doesn’t come with an out-of-pocket expense—though you will spend time on it. Employment and tax laws are complicated, and mistakes can be costly. At the very least, you’ll probably want to engage a CPA to file your taxes, use payroll software, and consider paying for HR advice.
- Use Mosey. Mosey is a one-of-a-kind compliance platform that automates manual compliance tasks, providing the time-saving and risk-reduction benefits of retaining a PEO for a fraction of the cost—all while keeping your data safely in-house. Our complete system for state compliance helps you stay on top of employment and tax requirements in all 50 states + DC and creates a single source of truth for all compliance-related account info.
- Hire a consultant or retain fractional services. HR and legal consultants can help you navigate specific compliance challenges, bookkeepers can help with finances and payroll, and a fractional Chief People Officer can provide more hands-on HR support as you grow.
- Staff up. As your business grows, compare the cost of accounting, compliance, and HR outsourcing to the cost of hiring experts to perform these functions in-house. When the cost of outsourcing exceeds the cost of hiring, it might be time to add to your team.
PEOs don’t cover all areas of compliance that can arise from employing someone in a particular state—so even if you do opt for a PEO, you may end up engaging some of these alternatives to complement the PEO’s services.
Mosey is a platform for employment and tax compliance. We automate setup, provide tools to identify and manage ongoing compliance, alert you when requirements change, and provide a unified source of truth. Mosey is agnostic to the payroll provider or tax vendors you use, making it a good fit for scaling startups operating in many locations at once or plan to move off of a PEO. Want to learn more? Schedule a demo—our team is excited to meet you.