Most managers have a salary figure in mind when interviewing a job candidate. But they should also consider the costs of hiring a potential new employee before extending an offer sheet. There are various cash and non-cash benefits to account for—such as unemployment insurance, 401(k) matches, office supplies, and other fringe benefits.
According to 2016 data from the Bureau of Labor Statistics, employee benefits on average account for 31.5 percent of total compensation. Here are five costs of hiring new employees you must consider.
1. Hiring Process
Posting on job boards such as Indeed, LinkedIn, and Monster may cast a wide net, but each job advertisement can cost a few hundred dollars. Aside from job postings, the due diligence will take time and money because hiring the wrong person is expensive for an organization. According to Harvard Business Review, as much as 80 percent of employee turnover is due to bad hiring decisions.
Human resources, hiring managers, company executives, and junior team members can all get involved in vetting job seekers—which interrupts ongoing work. Managers should anticipate spending money on various expenditures such as:
- travel and accommodation for visiting interviewees ($300 to $800)
- lunches and dinners ($50 to $200)
- background checks and other due diligence practices ($100 to $1,000).
A basic criminal background check can cost up to $100 per hire. But a more thorough due diligence can cost hundreds of dollars for a low- to mid-level employee. The cost can be more significant if you're running a check in multiple states or countries.
When it comes to filling leadership vacancies, headhunters can charge hefty fees which are often calculated as a percentage of annual salary. For example, a recruiting agency that charges 20 percent (of salary) stands to earn $20,000 for recruiting a manager who will make $100,000 in annual salary.
2. Federal and State Unemployment Taxes
The Federal Unemployment Tax Act (FUTA) funds benefit payments for unemployed workers. In 2016, businesses pay 6 percent of the first $7,000 of employee wages. That amounts to $420 per employee in most states. (California, Connecticut, and Ohio have higher FUTA tax rates.) But after tax credits are applied, the tax can drop to $42 per employee.
That's because the effective tax rate for FUTA is generally much lower than 6 percent, especially if your business is required to pay state unemployment taxes. The State Unemployment Tax Act (SUTA) has tax rates and policies that vary by state. Employers generally receive a 5.4 percent tax credit when they file their FUTA tax return (Form 940) which results in a net FUTA tax rate of 0.6 percent—or $42 per employee.
A 4 percent state tax rate on the maximum taxable earnings of $7,000 amounts to $280 per employee. According to ADP, these are the employer tax rates for state unemployment insurance:
- California: 3.4 percent (plus 0.1 percent employment training tax); $245 per employee
- Connecticut: 4.3 percent; $301 per employee
- Florida: 2.7 percent; $189 per employee
- New York: 4.1 percent; $287 per employee
FUTA does not apply to independent contractors because they're not classified as employees. If you have seasonal demand for your products or services, it might be prudent to hire independent contractors during peak periods to augment your regular staff. That would prevent having too much labor during non-peak times.
3. Social Security and Medicare
The Federal Insurance Contributions Act (FICA) mandates that, for 2016, employers and employees each pay 6.2 percent of earned income towards Social Security. The maximum taxable earnings is $118,500—and there's no limit on taxable earnings for Medicare. For 2016, employers and employees each pay 1.45 percent towards Medicare.
The combined rate amounts to a 7.65 percent tax rate for both programs—or $4,590 for a worker making $60,000 a year. And as of January 2013, "individuals with earned income of more than $200,000 ($250,000 for married couples filing jointly) pay an additional 0.9 percent in Medicare taxes," according to Social Security Administration (SSA).
Generally, Social Security and Medicare taxes are automatically withheld from the employee's paycheck. Also, individuals benefit from being classified as an employee rather than an independent contractor. The combined tax rate (Social Security and Medicare) for self-employed persons is 15.3 percent—compared to 7.65 percent for employees.
4. Workers' Compensation Insurance
Most states require workers' compensation to cover claims arising from workplace injuries or illnesses. Each state has its own regulations, but the insurance rate is determined by an employee's risk classification in each industry. For example, a state may require an employer to pay around 1 percent per $100 in wages for an office receptionist. But in the utilities and communications industry, higher rates may require employers to pay nearly $3,000 annually per employee.
The annual cost per employee is generally more expensive for blue collar jobs (such as construction and industrial vocations) than white collar jobs (such as banking and professional services), reflecting the greater likelihood of injury or illness in blue collar occupations.
5. Employee Payroll
Paying your employees costs more than just the amount you send them a paycheck for. For most companies, it’s easier to outsource payroll or to use a payroll software rather than handling payroll on their own. You can expect to pay an amount per pay period and with some businesses, pay a setup fee. Add in costs for issuing proper tax forms (some companies offer this for free), and you can see the expenses add up.
There are plenty of added expenses when you hire employees, and it can be challenging to calculate this amalgamation of hidden and indirect costs to come up with a tried-and-true employment cost. Think of all the free coffee, supplies, printer paper, internet access, extra conference rooms, gym memberships, and parking spaces you need in order to accommodate extra bodies at work.
Despite the challenge, it remains prudent to estimate total employment costs so you'll be in a position to better manage payroll.