Setting up payroll involves registering for tax accounts, classifying workers, choosing a pay schedule, selecting a payroll method, and establishing processes for tax deposits and filings. Getting payroll right from the start avoids costly IRS penalties and state fines.

20 steps across 7 sections

1. Get Your EIN

Required for all employers
Apply free at IRS.gov

2. Register for State Tax Accounts

State income tax withholding account (Department of Revenue)
State unemployment insurance account (Department of Labor)
See topic 0172 for details

3. Classify Workers Correctly

Employee (W-2): you control what, when, where, and how they work
Independent contractor (1099): you control only the result, not the method
Misclassification triggers back taxes, penalties, and interest from both IRS and states

4. Collect Employee Forms

Federal W-4 — determines federal income tax withholding
State W-4 (if applicable) — state withholding elections
I-9 — employment eligibility verification
Direct deposit authorization — bank account details
Benefits enrollment forms — if offering health insurance, retirement, etc.

5. Set Up Recordkeeping

Maintain records for at least 4 years (IRS) and longer per state requirements
Track: hours worked, wages paid, tax withholdings, deductions, PTO balances

6. Federal Unemployment Tax (FUTA)

6.0% on first $7,000 of each employee's wages (effective rate 0.6% with state credit)
Deposit quarterly if liability exceeds $500
File Form 940 annually

7. State Tax Deposits

Frequency varies by state and liability amount (monthly, quarterly, annually)
Check your state's Department of Revenue for specific deadlines

Setting up payroll