Managing Payroll: A Comprehensive Guide 2025
Managing payroll is a critical function for any organization, directly impacting employee satisfaction, legal compliance, and financial stability.
As Eric Mochnacz, COO at Red Clover HR puts it “Accurate and timely payroll is the base of the pyramid of employee engagement. You can't get your workforce bought into bigger picture strategic initiatives if they can't trust they are going to get paid correctly and on time.”
But it's easier said than done.
Effective payroll management involves navigating complex regulations, tax obligations, and data accuracy requirements that vary by location and employee type.
The good new is that, with the right tools, training, and processes in place, businesses can turn payroll into a streamlined, reliable function that supports both compliance and team morale.
Here I’ll share what you need to know to for effectively managing payroll in your org.
How To Manage Payroll
Effectively managing payroll involves accurately calculating, distributing, and tracking employee compensation, including wages, taxes, and deductions.
The process typically involves several key phases, each crucial for ensuring accurate and timely payment of employees.
1. Register as an employer
Before processing payroll, your business must obtain an employer identification number (EIN) from the IRS.
When setting up with the IRS and state agencies, you must indicate whether you'll be paying employees, independent contractors, or both.
This affects what forms you'll need to file (e.g., W-2 for employees, 1099-NEC for contractors) and how you'll report and remit taxes.
You may also need to register with state and local tax agencies.
Tip: Double-check your worker classification to avoid penalties employees and contractors are treated differently by tax authorities.
2. Choose a payroll system
Choosing the right payroll system is critical to managing payments efficiently and staying compliant with tax laws.
Here are the potential methods for managing payroll.
- Manual payroll: In this traditional approach, payroll is managed in-house manually by a person or a team. They calculate pay and deductions and prepare payment by checks or cash. This method is more common in smaller businesses due to its low initial payroll system costs, but it can be time-consuming. You also have to report manually to the relevant tax authorities.
- Payroll software: Many companies use specialized payroll software to automate the payroll process. This software can calculate wages, taxes, and deductions automatically. It often includes features for direct deposit, tax filing, on-demand pay, and generating reports.
- Outsourcing to payroll service providers: Some businesses outsource their payroll management to external payroll company, including those that offer international payroll services for global teams. These companies specialize in payroll services and ensure compliance with tax laws and regulations.
- Hybrid systems: Some companies use a combination of these methods. For example, they might use software for calculations and reporting but outsource certain aspects like tax filing and compliance.
3. Collect employee documentation
Before processing payroll, it’s essential to gather complete and accurate documentation from each employee.
- For employees, you collect W-4, I-9, and benefits forms.
For contractors, you typically just need a W-9, and you don’t withhold taxes from their payments.
You’ll also need personal details like Social Security numbers and contact information. Keeping this data organized and secure is vital for compliance and employee trust.
Tip: Create a standardized onboarding checklist to ensure all required forms are completed before the employee’s first day.
4. Establish a payroll schedule
A well-defined payroll schedule ensures consistent, predictable payments for employees and simplifies planning for your finance team.
Common frequencies include weekly, biweekly, semimonthly, or monthly—each with its own pros and cons depending on your business needs.
State laws may mandate how often certain types of employees must be paid, so compliance is key. Be transparent with employees about when they’ll be paid and stick to the schedule.
Tip: Align your payroll schedule with your accounting cycle to streamline payroll reconciliation and improve cash flow visibility.
5. Track work hours and compensation
Accurate time tracking is the foundation of correct payroll for hourly workers and important for managing leave and overtime across all roles.
Use digital tools time clocks to log hours worked, breaks, PTO, and overtime.
For salaried employees, tracking may be less detailed, but is still important for benefits accrual or performance monitoring.
Consistent tracking helps ensure fairness and legal compliance with wage laws.
Tip: Integrate time-tracking software with your payroll system to eliminate manual data entry and reduce errors.
6. Calculate gross pay and deductions
Gross pay includes the total earnings an employee is entitled to before deductions—this could include regular wages, overtime, bonuses, or commissions.
From this amount, you must subtract required deductions like federal and state taxes, Social Security, Medicare, and optional benefits (e.g., health insurance, 401(k)).
The result is the employee’s net pay. Every deduction must be calculated correctly and documented for transparency.
7. Distribute employee payments
Once payroll calculations are finalized, payments must be issued to employees in a timely and secure manner.
Common payment methods include direct deposit, paper checks, or prepaid payroll cards.
It’s essential to also provide a detailed pay stub that outlines gross pay, deductions, and net pay. Ensuring consistency and accuracy builds trust and minimizes employee disputes.
Tip: Encourage the use of direct deposit to streamline payments, reduce paper waste, and lower processing costs.
8. File and remit payroll taxes
Employers are responsible for withholding payroll taxes from employee paychecks and submitting them to the appropriate federal, state, and local authorities.
You’ll also need to file forms like 941 (quarterly) and 940 (annually), and provide year-end documents such as W-2s and 1099s.
Deadlines vary by jurisdiction, and late submissions can result in fines or penalties. Staying on top of these responsibilities is key to compliance.
Tip: Automate tax filings through payroll software or outsource to a provider to ensure timely and accurate submissions.
9. Maintain accurate payroll records
Maintaining thorough records of payroll transactions is both a legal requirement and a best practice for internal audits.
These records should include timesheets, pay stubs, tax forms, and correspondence related to employee compensation.
Employers are generally required to keep records for at least three to four years, though some states require longer retention. Organized records help resolve disputes and provide a clear audit trail.
Tip: Store records digitally in a secure, searchable format to simplify access and reduce physical storage needs.
10. Review and stay compliant
Payroll isn’t a one-time setup—it requires regular reviews to ensure compliance with labor laws, tax codes, and benefit regulations.
Monitor for errors like incorrect classifications, missing payments, or out-of-date tax rates.
Conduct internal payroll audits at least once per year and stay updated on regulatory changes that might affect your payroll process. Staying proactive helps you catch issues before they escalate.
Tip: Schedule quarterly mini-audits and subscribe to labor law update newsletters to keep your system legally sound and up to date.
8 Managing Payroll Best Practices
Here are some best practices to help ensure that payroll management is timely, accurate, and compliant.
1. Automate where possible
As Katrina Magdol, Founder, Amalou Consulting, suggests “My advice is to automate as much of the payroll process as possible. Whether you are a team of one or a payroll team of five, leverage your HCM/HRIS and other tools available to you.
Start from onboarding. Automate the completion and secure storage of your employees' payroll forms by using the onboarding module of your HCM/HRIS. When it comes to employee changes, do the same.
For example, do you have an employee with a new pay rate? To ensure their pay is processed accurately, find a way to enter a reminder or flag within your HCM/HRIS as soon as the pay rate change is approved.”
2. Sync payroll software calendar with your own
“It’s a good idea to take the calendar from your payroll software and download it into your own calendar—from the individual payroll dates and when you need it submitted to when payroll tax payments and reports are due,” suggests Kimberly DeCarrera, Fractional CFO, Springboard Legal.
“Having the payroll calendar in your main work calendar (Microsoft Outlook, Google Workspace, etc) helps a payroll or accounting manager stay on top of all the various deadlines and reminders.”
3. Stay updated on regulations
Regularly update your knowledge of local, state, and federal tax laws and employment regulations.
This includes understanding changes in tax rates, minimum wage laws, overtime rules, and benefits regulations. Resources like the US government’s compliance assistance will help here.
Tip: Assign a compliance owner internally and/or sign up for alerts or use a provider that handles legal updates automatically.
4. Establish clear payroll policies and procedures
Create clear payroll policies covering working hours, leave, overtime, holiday pay, bonuses, and corrections.
Share these guidelines with employees during onboarding and keep them accessible. This ensures consistency in payroll practices and helps employees understand how their pay is calculated.
Make it easy for employees to access your payroll policies and their personal payroll information, such as pay stubs and tax documents, perhaps through an online portal. Transparency builds trust and reduces the number of queries payroll staff must handle.
Tip: Include payroll FAQs in your onboarding or HR materials.
5. Ensure the process involves at least two people
As Magdol suggests, “Design the process in a way that requires (at least) two different people to fully review the preview (or preprocess register) before it is submitted. Having two people review the full details is one of the most effective ways to avoid errors.”
Tip: Set up validation checks in your system to flag unusual entries.
6. Keep payroll information secure
Between November 2018 and January 2019, KPMG Mexico, a payroll service provider accidentally exposed payroll data for 41 of their clients due to their information being stored in an insecure database, costing them $1.6 million.
Payroll data is extremely sensitive and needs to be protected using strong access controls and encryption. Here are the 5 key payroll data protection practices:
- Use secure, compliant payroll software: Choose platforms with encryption, 2FA, audit trails, and compliance certifications (e.g. SOC 2, GDPR).
- Limit and monitor access: Grant access only to essential personnel using role-based permissions; review access logs regularly.
- Encrypt data and secure backups: Encrypt all payroll data at rest and in transit; maintain secure, tested backups in offsite or cloud storage.
- Train staff on security awareness: Educate your team on handling sensitive data, phishing risks, and secure communication protocols.
- Prepare for breaches with a response plan: Develop and test a payroll-specific incident response plan that includes legal, IT, and employee communication steps.
7. Conduct regular payroll audits
Regular payroll audits help catch small issues before they become costly problems, and prepare your company for external audits or legal scrutiny.
Auditing involves reviewing payroll records, pay slips, tax filings, and payment logs to ensure accuracy and detect irregularities. Schedule internal audits quarterly or annually, and involve HR, finance, and legal teams as needed.
Use audits to confirm proper tax deductions, verify benefit contributions, and ensure employee classifications are correct.
8. Provide training
Lasty, as Jimmy Viescas, CFO, Integrated Finance and Accounting Solutions highlights “Comprehensive training for HR and payroll staff, with clear employee communication, ensures effective system usage.”
Training is essential to reducing payroll errors and improving efficiency by equipping staff with the knowledge to navigate complex regulations, use software effectively, and follow standardized procedures.
It ensures payroll professionals stay current with changing tax laws, labor standards, and internal policies—minimizing costly mistakes and compliance risks. Well-trained teams can confidently handle exceptions, streamline workflows, fully leverage automation tools, and confidently guide managers and individual contributors.
Check out our pick of the best payroll certifications.
Who Should Manage Payroll?
Being predominantly an HR-focused publication, we’re often asked “Does HR do payroll?”
Truth is the responsibility for payroll can vary depending on the size and structure of the organization. Typically, the following parties are involved:
- Human Resources (HR) department: In many companies, the HR department plays a key role in payroll management. They are responsible for aspects like maintaining employee records, overseeing timekeeping and attendance, determining benefits and deductions, and ensuring compliance with labor laws.
- Accounting or finance department: The accounting or finance department often handles the financial aspects of payroll. This includes processing payments, managing payroll software, handling taxes and deductions, and ensuring that all financial records are accurate and up-to-date.
- Payroll department: Larger organizations may have a dedicated payroll department. This department specializes in all aspects of processing payroll, including calculating pay, managing deductions, ensuring tax compliance, and addressing employee queries related to payroll.
- External payroll service providers: Some companies outsource payroll responsibilities to external HR service providers. The purpose of payroll service providers is to offer specialized payroll services, ensure compliance with tax laws, and often provide additional services like tax filing and employee self-service portals.
- Small business owners or managers: Small business owners often handle payroll themselves. Leveraging advanced tax solutions for business can ease this burden by automating calculations and ensuring accuracy.
Using Payroll Software
Payroll administration can be time-consuming and it’s pretty important to get it right.
So, if you decide to manage payroll in-house, odds are you’re going to use some form of payroll software to help automate much of the process.
Payroll software is a specialized type of software designed to manage and automate the process of paying employees.
It automates much of the various (time-consuming and error-prone) tasks related to payroll management including tracking time and attendance, calculating wages, withholding taxes, direct deposits, submitting reports, and generating paychecks.
Key features include:
- Automated payroll processing: The software must be able to process your employee’s pay, including automatically calculating wages, deductions, and taxes. This eliminates manual errors and saves time, making the process more efficient.
- Direct deposit: Pretty much all payroll software allows employers to pay their staff directly into their bank accounts. This eliminates paper-based processes and provides a better experience for employees and payroll staff.
- Tax compliance forms: Compliance requirements require payroll software to prepare year-end tax forms for employees, such as W2s or T4s. What’s neat is that the vendors will ensure that the software is up-to-date with payroll regulations.
- Flexible payroll reports: The ability to customize your payroll reports to track payroll taxes, employee deductions, and other expenses can help with budgeting and financial forecasting.
- Data management: Payroll software typically includes an employee database to store key details such as salaries or hourly rates, position levels, emergency contacts, social insurance numbers, and other employment details.
- Unique payment options: This might be unlimited payroll runs or pay-on-demand options to make payments between designated paydays.
- Time-tracking: Especially for hourly workers, having timesheets and scheduling built into your payroll system greatly streamlines your processes.
- Compensation management: This includes being able to track different pay rates (salary, hourly, overtime, vacation pay, PTO, etc.) and managing pay structure. It can also mean tracking salary increases over time.
- Self-service employee portals: These portals allow employees to proactively access and update their own personal information, access pay statements, and submit time off requests or expense reports. This is an important feature since it simultaneously empowers employees and reduces demands on your HR staff.
- Analytics: Dashboards, graphs, and reports to analyze payroll data to gather insights about your staff. These analytics support your organization’s workforce planning efforts.
- Region-Specific Customizations: Different locations have different requirements. For example, payroll software for Canadian businesses streamlines complex payroll tasks, from deductions to direct deposits for that country.
If you're looking for a very basic option, stand alone payroll systems also exist. These systems are not connected to other HR software systems, making them a bit lighter on features, but often also lower in costs.
Using A Payroll Service
Payroll services are outsourced solutions provided by external companies that specialize in handling all aspects of payroll processing for other businesses.
These services take on the responsibility of managing employee payments, including calculating wages, deducting taxes, and ensuring compliance with legal and tax requirements.
The goal of payroll services is to streamline payroll operations, reduce the administrative burden on internal staff, and mitigate compliance risks associated with payroll management.
These services are particularly useful for managing global payroll.
Managing Payroll Doesn’t Have Difficult
Payroll is a critical business function and not to be taken lightly. However, with the right process and best practices, managing payroll can run like a well-oiled machine.
For some further help check out our articles payroll software for small businesses, payroll services for small businesses, payroll integration and make use of our payroll checklist.For an even deeper dive, consider a payroll training course or attending one of these payroll conferences to expand your knowledge and connect with payroll professionals.
FAQs
Why is managing payroll important?
Payroll is a vital business function. Here are the main reasons why the effective management of payroll is so important:
- Legal compliance: Payroll management ensures compliance with various laws and regulations related to employee payments. This includes accurately calculating taxes, social security contributions, and adhering to minimum wage laws. Failure to comply can result in legal penalties and damage to the company’s reputation.
- Financial stability and budgeting: Effective bi-weekly payroll management helps maintain financial stability and ensure that the company is budgeting appropriately for employee costs, including salaries, benefits, and taxes.
- Resource management: Payroll management involves keeping track of employee hours, overtime, bonuses, and deductions. Accurate record-keeping is essential for efficient resource management, enabling the company to make informed decisions about staffing and compensation.
- Employee morale and trust: Timely and accurate payment of salaries is crucial for maintaining employee morale and trust. Inconsistent or incorrect payments can lead to dissatisfaction, decreased productivity, and high turnover rates. Employees who feel valued and fairly compensated are more likely to be engaged and productive.
- Data security and privacy: Payroll data contains sensitive information such as employee personal details, salary information, and bank details. Proper payroll management ensures the security and confidentiality of this data, protecting it from unauthorized access and breaches.
- Strategic planning and analysis: Payroll data can be used for strategic planning. By analyzing trends in operational expenses, companies can make informed decisions about hiring, compensation strategies, and workforce management.
What information is needed to process payroll?
- Employee personal details (name, address, Social Security number)
- Employment details (classification, start date, job title, department)
- Pay details (hourly rate or salary, pay frequency, hours worked)
- Tax withholding information (W-4 form)
- Benefits and deductions information (health insurance, retirement contributions)
What to do in the event of a payroll error?
- Identify and correct the error as soon as possible.
- Communicate with the affected employee(s) and explain the mistake and the corrective action.
- Adjust the next payroll cycle to reflect the correction or issue an additional payment if necessary.
How to manage payroll for independent contractors?
- Ensure proper classification of workers as independent contractors.
- Do not withhold taxes from contractor payments; provide them with a 1099 form at year-end.
- Report contractor payments to the IRS and applicable state tax authorities.
- Use contractor payroll software to simplify the payment process.
What are the year-end payroll responsibilities?
- Prepare and distribute W-2 forms to employees and 1099 forms to contractors.
- File annual payroll tax reports with the IRS and state tax authorities.
- Reconcile payroll records and ensure all taxes and deductions have been accurately reported and remitted.
