What is a PEO (Professional Employee Organization)?

Charles Read, CPA, USTCP, IRSAC

Charles Read, CPA, USTCP, IRSAC
President/CEO GetPayroll
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The trade organization for PEO’s is the National Association of Professional Employer Organizations (NAPEO) which was what the National Staff Leasing Association changed its name to in 1994 after 10 years in business.

According to NAPEO a PEO allows businesses to outsource a number of employee associated functions including Human Resource Management, Employee Benefits Management, Employee Payroll, and Workers Compensation Insurance in a cost-effective manner. Thus allowing a business not to have to spend time on those functions and concentrate on other areas.

The NAPEO goes on to say they relieve their clients of the burden of administering critical employee-related functions, reduces liabilities, increase competitiveness and improve the bottom line of their clients.

What PEOs really do is provide a way for employers to buy insurance products, payroll processing and possibly some basic HR services in a single package with a high administrative cost added on top. PEOs will say that they “Assume certain employer rights, responsibilities, and risk”. Many of the States they operate in disagree. Most states have rules that PEOs are co-employers or joint employers and that the actual employer retains all of the risks.

PEOs began in the 1960s as a way to escape ERISA requirements. If you had no employees you were exempt from ERISA. Those rules have been long since repapered by the Federal Government. PEOs have been used to reduce workers’ compensation costs to their clients. Several PEO principles have gone to jail for improperly reporting workers’ compensation risks and thereby illegally reducing the premiums they were being charged. PEOs were front and center in the State Unemployment dumping scandals to improperly reduce State Unemployment taxes for a company. This stop when the anti-dumping law was signed by George Bush in 2004 and similar rules adopted by most States.

What it comes down to is this. A PEO says it will use a large number of employees it has to negotiate better rates for medical insurance policies than small businesses can. But if you are the small business you have to take the policy that the PEO has negotiated. Since high benefit policies are easier to negotiate small businesses will many times find they are buying a Cadillac health insurance policy when they want to buy a Ford. The Cadillac policy is cheaper than the small business could buy it, but it is still way more expensive than the Ford policy they could have negotiated on their own. What Obamacare and State Exchanges are going to do to the PEO insurance field is still up in the air.

The PEO will do the same thing with Workers Compensation Insurance. Bundle up a whole bunch of risks and try to get a better rate from the insurance company. They may also maintain a staff whose sole purpose is to minimize payouts of workers compensation claims to your employee. Those payouts affect the PEO’s experience rating, not yours and drive up costs. When your employees don’t get compensation for their injuries like they think they should are they going to blame the PEO or you, their employer.

PEOs attracted over the years the worst risks because those risks received the greatest benefit from a better workers’ compensation rate from the PEO. This, of course, was a self-defeating proposition for the PEO. Those bad risks drove up the premium cost to the PEO with no benefit to the PEO. In the current environment, many States and many workman compensation carriers require individual underwriting of each client company of the PEO. Since the underwriting is just the small businessman’s company and the experience rating just accidents involving his employees and since rates are set by the State; the advantage of being in a PEO employment pool is gone. Just an extra charge for the PEO administering your workers’ compensation which for many companies is worth little or nothing.

Many of the PEOs brag about their Human Resource departments and what they bring you. For many small businesses that are little or nothing. They don’t hire people for you. They don’t fire people for you. When an employee has a complaint the PEO is off in some other City or State. When an employee has a personal problem and needs a shoulder to cry on, it is still the small business owner’s shoulder that gets cried on. Since most small businesses don’t have heavy HR requirements a heavily staffed HR department is a cost that the small business owner neither needs nor wants. Now that your employees are in a much larger pool it makes them subject to more not less Federal and State regulation.

One final thing a PEO does is process your payroll. They do pay the taxes and file the forms as the employer of record. If the PEO goes out of business is the IRS is going to write off any unpaid taxes. The small businessman will find that the IRS deems them a “Responsible Party” and they will be forced to pay the taxes the PEO did not.

So how does the PEO bill you? Normally they calculate their costs, plus an administrative fee, plus a profit margin and they add that as a percentage to your payroll costs. Each pay period you turn in your hours and salaries and the PEO tells you what you have to wire to them so they can process the payroll. The administrative fee can run from 4% of the real costs to a much higher percentage. The PEO will normally be very reluctant to discuss their actual costs so that you can really see what you are paying for. Our experience with PEO that runs back to when they were still called staff leasing and has shown us that they try to make the bills absolutely impenetrable, and we are CPA’s and experts at deciphering this stuff. They also neglect to lower your cost as your employees max out for SUTA, FUTA, and even FICA.

Our experience over the last 30 years is that it is never cheaper to use a PEO. If you negotiate your own insurance coverage, pay for your own workers’ compensation experience, use an HR online service when needed and use a good payroll processing service bureau with CPAs on staff that you, will, save money. Lots of money!

In our experience, the savings are always at least $1000.00 per employee per year and sometimes more than twice that. One of our best customers, owned by doctors, with 150 or so employees got talked into looking at a PEO a few years ago. One of the doctor’s owner’s golfing buddies was in the PEO business. The business manager was a very sharp person and had minimized costs for years. The PEO quote was $300,000.00 per year higher for the same services and insurance that the business was getting. Needless to say, the doctor changed his mind and his golfing partner.

Before going with a PEO analyze what they are offering you and what it is really worth to you. With the SHOP exchanges and the rest of the Affordable Care Act, a one-stop-shop is going to be very enticing. But if you have 20 employees you may be talking a $50,000 hit to your bottom line and getting little or nothing out of it. Talk to a payroll company with CPAs on staff. They should be able to bring in one or more independent insurance agents and one or more online HR services. We do that for our clients. We think you will be surprised. If you are already in a PEO we suggest the same thing. We think you will be amazed at the available savings. Why do you think the big payroll companies are pushing their PEO divisions so hard, it is because they are much more profitable than any other service they provide?

 

 

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