How much of your revenue should go to payroll?

Managing payroll can be a difficult aspect of running a business. The trick is finding a balance in having enough employees to optimize sales, and not to hire employees that you don’t need.

There are many ways to analyze the optimal payroll balance for a business, the most effective and frequently used method is trying to keep payroll around a certain percentage of gross revenue. Please keep in mind that using a percentage of your revenue to allocate to your payroll is a guideline, rather than an obligation.

The total cost of labor vary dramatically by industry. Some industries pay low wages but have high rates of employee turnover. These low wages may be beneficial for the owners, but these high numbers of turnover usually result in high costs for acquiring and training replacements. So, if you are in an industry where your employees need to have a lot of training, remember that low wages will result in high turnover. To read more about how to define the right wages for your company, read the following article.

There are many factors that have an influence on the right percentage, and every company is different. For example, sophisticated oil refineries and laboratories might have labor costs of less than 10 percent, while restaurants have an average around 30 percent. In the retail industry there is generally a higher labor cost from around 15 to 20 percent. Service-based industries, where your employees are your primary cost, have a percentage as high as 50 percent. In general, the safe zone for most type of businesses is between 15 to 30 percent.

How to find the percentage for my company?

You will need to calculate the Revenue to Payroll Percentage. This calculation is relatively straightforward. You will need to divide the total payroll by the gross revenue and convert this result into a percentage by multiplying it by 100.

For example:
Annual revenue 2018: $ 600,000
Total payroll 2018: $ 200,000
($ 200,000)/($ 600,000) X 100= 33,33%

To calculate your revenue number, use your gross revenue minus sales taxes. And to calculate your total labor costs include every item associated with employee compensation (examples: gross wages, paid vacation pay, health insurance, life insurance, 401(k) contributions, auto allowances, other benefits, state or local taxes, unemployment insurance, state disability insurance,…)

Whats next?

Now that you know what your current percentage is that you are investing into your payroll, it is time to optimize it by reviewing your wages! Try to lower your turnover and keep your A class team together. Find out how to pay your employees fairly in this article.

Did you know that paying your employees an above average salary has a lot of advantages? Find out why in this next article!

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