How To Pay Employees: A Small Business Guide

Figuring out how to pay employees is one of the first real operational challenges every small business owner runs into. Between tracking hours, calculating taxes, and staying on top of labor laws, payroll can feel like a second job on top of the one you're already running.

The good news is it doesn't have to be that complicated. This guide covers everything you need to pay your team accurately and on time, from choosing between salary and hourly pay, to handling 1099 contractors, to understanding your options when you don't have payroll software yet.

What you need to know about paying employees

Paying employees involves more than handing over a check, but once you know the basics, it's a process you can run confidently every pay period. Here's the short version:

• W-2 vs. 1099: Employees get wages with taxes withheld. Independent contractors get paid in full and handle their own taxes.
• Salary vs. hourly: Salary is a fixed amount per period regardless of hours. Hourly pay varies based on time worked. Most small businesses use a mix.
• Pay frequency: Weekly and biweekly are the most common for hourly teams. Check your state's requirements.
• Payment methods: Direct deposit is the standard. Cash is legal as long as taxes are handled correctly.
• The payroll process: Collect forms, track hours, calculate taxes, pay your team, file taxes, keep records.
• Software vs. manual: Manual works for one or two employees. For most small businesses, payroll software pays for itself within the first quarter.

What is employee payroll?

Employee payroll is the process of paying everyone who works for your company. But it's not just handing over a check. From tracking employee hours and calculating wages to withholding taxes and filing with the IRS, a lot happens behind the scenes before your team sees a dollar.

Getting payroll right matters for three reasons: it helps you stay compliant with payroll and labor requirements, it protects your business from costly penalties, and it builds the kind of trust with your team that keeps good people around.

Why getting payroll right matters for your business

Payroll errors are more common than most owners realize, and the costs add up fast.

• Penalties are real: Payroll errors can lead to penalties, employee frustration, and time-consuming corrections. In California, employers may face civil penalties for late wage payments, including penalties of $100 per employee for an initial violation and higher penalties for subsequent or willful violations.¹
• Team trust depends on it: Paycheck mistakes and late payments damage morale fast. Your team should never have to wonder if they'll get paid on time.
• Labor laws keep changing: Many states and localities set minimum wages above the federal rate, and requirements shift regularly. Staying current is part of running payroll correctly.²

¹ California Labor Code §210. ² U.S. Department of Labor, Wage and Hour Division.

W-2 employees vs. 1099 contractors: what's the difference?

Before you can pay someone on your team, you need to know how they're classified. The two most common categories are W-2 employees and 1099 independent contractors, and how you pay each is completely different.

W-2 employees are people you hire directly. You withhold federal and state income taxes, Social Security, and Medicare from every paycheck, and you remit those funds to the IRS on their behalf. You also owe employer-side payroll taxes like FUTA and FICA.³ At year end, you send each employee a W-2 form.

1099 contractors are self-employed. You pay their invoiced amount in full with no withholding. They handle their own taxes. Businesses may be required to issue Form 1099-NEC for qualifying payments made to independent contractors. Check current IRS reporting requirements for the applicable tax year.

The practical difference for a small business: a restaurant server who works regular scheduled shifts is generally classified as a W-2 employee. A photographer you hire once for a catering event is likely a 1099 contractor.

Misclassifying a worker as a contractor when they should be an employee is a serious issue. The IRS uses a behavioral control, financial control, and relationship-type test to determine classification. Getting it wrong can mean back taxes, penalties, and interest. If you're unsure, check the IRS independent contractor guidance or talk to your accountant before you pay.

Onboarding the wrong way creates classification problems from day one. When new hires can complete onboarding paperwork, including W-4 and I-9 forms, before or at the start of employment, you know exactly how to pay them before they ever clock in. Tools like Homebase handle that paperwork digitally so nothing falls through the cracks.

³ IRS Publication 15 (Employer's Tax Guide).

Salary vs. hourly pay: which option works for your team?

When you're figuring out how to pay employees, you'll typically choose between two approaches: salary or hourly. Each has its advantages depending on your business and how your team actually works.

Salary pay: same paycheck every period

Salaried employees get a fixed amount each pay period. Whether they work 35 hours or 50 hours in a week, their paycheck stays the same. This works well for managers, coordinators, or specialized roles where output matters more than hours clocked.

Example (illustrative): An employee earning $48,000 a year gets $4,000 per month, regardless of how many hours they work that month.

Hourly pay: pay for time worked

Hourly employees earn money for each hour they work. More hours means a bigger paycheck. This is the standard for shift workers, part-timers, and jobs where schedules change week to week. Most restaurant, retail, and service businesses run on hourly pay because busy periods aren't predictable.

Example (illustrative): Someone earning $15 an hour who works 40 hours gets $600 gross that week. Work 25 hours and they get $375.

Most small businesses use a mix of both: salary for managers, hourly for everyone else.

How much should you pay your employees?

Competitive wages go beyond just meeting minimum wage requirements. You want to attract good people without overextending your budget. Here's how to figure out the right number:

• Check job postings for similar roles in your area to see what others are paying.
• Use salary research sites like Indeed or Glassdoor as benchmarks.
• Ask other local business owners in your industry, especially in informal networks.
• Factor in benefits like flexible scheduling or PTO, which can offset slightly lower base pay.

Happy, well-paid team members stick around longer, saving you money on hiring and training. Regional cost of living matters too, especially if you're comparing against national averages.

How to pay employees: step by step

Running payroll for the first time feels overwhelming for most owners. With the right process, though, you can get your team paid accurately every time. Here's how it works from start to finish.

1. Collect payroll forms during onboarding

Paying your team starts the moment someone joins. You need the right paperwork to withhold the correct taxes and get money into their accounts.

• Form W-4 for federal income tax withholding (plus your state's equivalent if required).
• Form I-9 to verify employment eligibility.
• Direct deposit authorization with banking information if you're using electronic payments.

Chasing down missing paperwork after someone starts delays their first paycheck and creates compliance gaps. Getting it done before day one keeps everything on track.

2. Track employee hours accurately

To calculate gross pay for hourly workers, you need exact hours: start times, end times, breaks, overtime, sick days, and any shift pickups. What you're tracking every pay period:

• Regular hours worked.
• Overtime hours (overtime generally applies after 40 hours in a workweek under federal law, though some states impose additional overtime requirements⁴).
• Break times and meal periods.
• Paid time off, sick days, or vacation hours used.

When hours are wrong, paychecks are wrong, and fixing payroll errors after the fact costs more time than preventing them. A time clock app with photo verification catches discrepancies at clock-in rather than on payday.

⁴ Fair Labor Standards Act, U.S. Department of Labor.

3. Calculate taxes and deductions

This is where those onboarding forms come in. Use each employee's W-4 to determine withholding amounts. What gets deducted from each paycheck:

• Federal, state, and local income taxes.
• Social Security and Medicare (FICA taxes).
• Any benefit deductions like health insurance or retirement contributions.

Example (illustrative): An employee earning $600 in gross pay for the week might have roughly $100 withheld for taxes, taking home around $500. Exact withholding depends on their W-4 elections, filing status, and your state.

Tax tables change, and getting withholdings wrong leads to penalties for your business and surprises for your team at tax time.

4. Pay your team on payday

It's payday. Get money into your team's hands through whichever payment method you've set up. Make sure everything processes before your designated payday date, not on it, so delays don't push payments late.

Direct deposit is the most common method because it's reliable, trackable, and your team gets paid even if they can't get to a bank. More on payment options below.

5. File payroll taxes

When you withhold taxes from paychecks, you're holding that money on behalf of federal and state tax agencies. You need to remit it on a schedule set by the IRS, typically monthly or semi-weekly depending on your payroll size.⁵

Don't forget employer-only taxes: FUTA (Federal Unemployment Tax) and SUI (State Unemployment Insurance) come out of your pocket, not your employees'.

⁵ IRS Publication 15 (Employer's Tax Guide).

6. Keep records organized

Once payroll is complete, store all records securely. The Fair Labor Standards Act requires you to keep payroll records for at least three years⁶, including time cards, pay stubs, and tax documents. What to keep:

• Timesheets and schedules.
• Pay stubs and tax withholding records.
• Any pay adjustments or deductions.

Good recordkeeping protects you in an audit and makes it easier to resolve any disputes quickly.

⁶ 29 CFR Part 516, U.S. Department of Labor.

As one Homebase customer put it: "Before Homebase I was manually tallying up my team's work hours and entering them into payroll, crossing my fingers I hadn't made any mistakes. Now our entire team logs in and out quickly and easily with the Homebase app, and all I have to do is send their hours to my payroll program with the click of a button."

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Ways to pay employees: choosing what works for your team

Once you know how much your team is owed, you need to get the money to them. You have more options now than ever.

• Direct deposit: Money goes from your business account to employee bank accounts on payday. No lost checks, no bank trips. This is the standard for most small businesses.
• Paper checks: Still useful as a backup, especially for team members without bank accounts. Checks can get lost and require a bank trip, but everyone knows how to use one.
• Cash: Legal to use as long as taxes are withheld and remitted correctly and you provide itemized pay stubs. More on this below.
• Early wage access: Lets employees access earned wages before regular payday to handle unexpected expenses. Make sure any fees are reasonable and that it integrates with your payroll schedule.

Most small businesses run direct deposit as the primary method with a backup option for team members who need something different.

How often should you pay employees?

Your pay frequency affects cash flow, employee satisfaction, and how much admin time payroll takes. Pay frequency requirements vary by state, and some states impose different rules for hourly and salaried employees. Here's how the main schedules compare:

• Weekly: Great for restaurants and retail where hours vary a lot. Your team gets consistent paychecks, but you're running payroll 52 times a year.
• Biweekly (every two weeks): The most common choice for small businesses. Just 26 payrolls per year, predictable for team members, and easier on your time.
• Semi-monthly (twice a month): 24 payrolls per year, often on the 1st and 15th. Works well for salaried teams but can be confusing for hourly workers whose hours vary.
• Monthly: Saves the most admin time with only 12 payrolls per year, but can be hard on hourly employees who need more frequent income.

Most hourly employees prefer weekly or biweekly since it helps them manage expenses. Check your state's specific requirements before settling on a schedule.

How to pay employees without payroll software

Yes, you can pay employees without payroll software, at least when you're starting small. Here's what it takes, and where it gets complicated.

For one or two employees with simple, consistent schedules, manual payroll is workable. You'll use IRS tax tables to calculate withholdings, pay by check or direct deposit through your bank, and file taxes manually with the IRS and your state agency.

The real costs of manual payroll show up fast as your team grows:

• Your time: Calculating hours, taxes, and deductions can take 2–4 hours per pay period. That's time you're not spending with customers.
• Error costs: Payroll mistakes can be costly because they often require corrections, amended filings, and additional administrative work.
• Penalty risk: Late or incorrect payroll tax filings can trigger IRS penalties and interest charges.

Most small businesses find payroll software pays for itself within the first quarter. And switching is faster than most owners expect. According to Scott Leitner, Senior Manager of Payroll Operations at Homebase: "Switching can take just 1–2 weeks. This is heavily dependent on how quickly all the demographic data and year-to-date payroll reports can be provided."

If you're manually reconciling timesheets every pay period, that's a few hours you won't get back. Homebase customers save an average of 5.5 hours per month on payroll vs. their previous provider, because hours tracked during the week flow directly into payroll without re-entry.

How to pay employees cash legally

Paying employees in cash is legal in the United States. What isn't legal is using cash to avoid your tax obligations.

If you pay wages in cash, you still have to withhold and remit the correct federal, state, and local taxes. You still owe FICA contributions as the employer. And you still need to give each employee an itemized pay stub showing gross wages, deductions, and net pay. Many states require employers to provide wage statements regardless of payment method.

Your recordkeeping obligations are identical to any other payment method. The IRS doesn't care whether you paid by direct deposit or cash, only that the taxes were calculated and remitted correctly.

The practical risk with cash: it creates audit exposure if your records don't match your reported payroll. Keep detailed written records of every cash payment, signed by the employee if possible.

Common payroll challenges small businesses face

Hourly payroll is the norm for most small businesses, and it comes with predictable friction points. Here's what trips up owners most often, and how to handle it.

Time constraints

Payroll is just one task on a long list, and it requires real prep work: calculating hours and rates, tracking overtime, managing deductions, and processing payments. Skipping the prep creates discrepancies that become expensive to fix later.

As Cambria Wallace, Project Lead II on Payroll Operations at Homebase, puts it: "Owners that use our timesheets feature and keep up with timesheet edits save the most time and can run payroll quickly (15–30 mins) no matter how many employees they have."

Inaccurate timesheets

Hourly workers get paid for time on the clock, so getting accurate hours matters. Common problems: employees forget to clock in or out, buddy punching inflates hours, and shift swaps go unreported. Digital time clocks with PIN verification and photo confirmation solve most of these before they become payroll problems.

Missing overtime

With manual tracking, it's easy to miss when someone slips into overtime. Hourly non-exempt employees are entitled to 1.5x their regular rate for hours over 40 in a workweek under the FLSA.⁷ Some states have daily overtime requirements on top of that. Automatic overtime alerts let you adjust schedules before the threshold is crossed, not after.

⁷ Fair Labor Standards Act, U.S. Department of Labor.

Incorrect tax withholdings

Federal, state, and local tax requirements change frequently. Getting withholdings wrong leads to penalties for your business and unhappy team members at tax time. Payroll software that updates tax tables automatically takes this off your plate entirely.

Stop dreading Sunday night payroll

Manual payroll works when you have one employee and a simple schedule. But for most small businesses with hourly teams, it becomes the task that eats your weekend.

When hours flow directly from your time clock into payroll, with taxes calculated and filed automatically, payday stops being something you dread. Your team gets paid accurately and on time, every time, and you get your evenings back.

That's what Homebase payroll is built for. Try it free and see how fast payday can actually be.

How to pay employees: frequently asked questions

How do I pay my employees?

Collect employee tax forms and banking information during onboarding, track hours worked, calculate gross pay, subtract withholdings for taxes and any benefit deductions, pay out via direct deposit or check, file payroll taxes with the IRS and your state, and keep records for at least three years.

How do I pay independent contractors?

Independent contractors aren't employees. You pay their invoiced amount in full with no withholding. They're responsible for their own taxes. Businesses may be required to issue Form 1099-NEC for qualifying payments. Check current IRS reporting requirements for the applicable tax year, and send the form by January 31 of the following year.

Can I pay employees cash legally?

Yes. Cash wages are legal as long as you withhold and remit the correct taxes, pay your share of employer taxes, and provide an itemized pay stub. Your recordkeeping requirements are the same as with any other payment method. Cash increases audit exposure if your records don't match your reported payroll, so document every payment.

How do I pay employees without payroll software?

Use IRS tax tables to calculate withholdings manually, pay by check or bank transfer, and file taxes directly with the IRS and your state agency. This is workable for one or two employees with simple schedules. For most small businesses, the time cost of manual payroll exceeds the cost of software within the first quarter.

What's the difference between salary and hourly pay?

Salaried employees receive a fixed amount each pay period regardless of hours worked. Hourly employees earn based on actual time worked, so their paycheck varies. Most small businesses use salary for management roles and hourly for shift-based team members.

How often should I pay hourly employees?

Pay frequency requirements vary by state, and some states impose different rules for hourly vs. salaried employees. Biweekly is the most common choice for small businesses because it balances admin time with employee cash flow needs. Check your state's specific requirements before settling on a schedule.

What happens if I pay employees late?

Penalties vary by state and can be significant. In California, employers may face penalties of $100 per employee for an initial violation and $200 per employee plus a percentage of unpaid wages for certain subsequent or willful violations under Labor Code §210. Beyond fines, late payments damage team trust and can lead to turnover.

Do I need to pay overtime to hourly employees?

Yes. Hourly non-exempt employees must receive overtime pay at 1.5x their regular rate for hours over 40 in a workweek. This is federal law under the FLSA.⁸ Some states have additional daily overtime thresholds. Check both federal and your state's rules.

⁸ Fair Labor Standards Act, 29 U.S.C. § 207.