Key Takeaways
1. A Professional Employer Organization (PEO) is a third-party HR provider that acts as the professional co-employer for the workforce of a client company.
2. In a PEO solution, the PEO takes over compliance, tax and payroll responsibilities. However, the workers still operate at the direction of the client company on a day-to-day basis.
3. Benefits of PEO solutions include more cost-effective and efficient payroll processing, better access to employee benefits, and full compliance with payroll and tax laws.
Professional Employer Organizations (PEOs) are one of the most popular HR solutions on the market today.
Here I explain exactly what PEO solutions are, how they differ from other HR solutions, and how a PEO solution might benefit your company.
What Is a PEO?
A Professional Employer Organization (PEO) offers HR, payroll and benefits management services, serving as the administrative co-employer for a client company’s workforce.
PEOs are beneficial for a wide range of entities and individuals, from large corporations and small to medium-sized enterprises (SMEs) to start-ups, educational institutions, and even individual contractors and freelancers. The advantages and applicability of PEOs for various organizational types are discussed further below.
In the United States, where the model was first developed, PEO has been an effective employment solution for operating across state lines. However, with the importance of international expansion for ambitious enterprises, PEO has arisen as a global employment solution. Sometimes a PEO that only operates across state or territory lines is called a domestic, local, or national PEO.
A Global PEO provides a range of traditional PEO solutions for businesses interested in hiring internationally. As well as those standard PEO offerings, they may provide a range of other associated employment solutions as well, such as recruitment, strategy, visa and immigration support, and legal entity set-up.
Global PEOs are also known as Employer of Record companies.
PEOs and Co-Employment
Traditionally, PEOs provide co-employment services. What exactly does this mean?
Co-employment means that two distinct companies (one of which is usually a PEO) taking on the rights and obligations of an employer. One company, the operating employer (also known as a worksite employer) is the day-to-day supervisor of employees and directs their activities. The second company, the administrative employer, takes responsibility for payroll processing, benefits administration, and related functions.
In the case of co-employment, as two companies have rights and responsibilities with respect to the employee, it’s worth setting up a ‘tri-partite’ agreement which sets out the rights and obligations that all three parties have towards each other.
In the United States, PEO services are regulated by state law and usually refer to a co-employment relationship. In other countries, the term PEO is usually used interchangeably with Employer of Record, to refer to the legal employer of a client company’s workforce.
PEO vs Employee Leasing
What is now known as PEO services, was originally known as “employee leasing” when the concept first became popular in the 1960s. The terms PEO and employee leasing are still often used interchangeably. However, sometimes employee leasing is used to refer to staffing company services, where the professional HR company employees worker, but then assigns them, often on a temporary basis, to a client company. Once the assigned work is completed, they will often return to the leasing company, available to be leased to another client company. This is also sometimes known as ‘temp staffing’.
PEO vs HRO vs ASO
Another popular form of outsourcing is Human Resources Outsourcing (HRO) which simply means that some aspect of a company’s HR function is contracted to a third-party company. This could mean that that company simply takes care of HR strategy, or that they take care of onboarding and ongoing compliance.
In most cases, however, HRO, is a less comprehensive outsourcing solution than PEO. Client companies still maintain ultimate responsibility and control over human resources — the HRO company is not the co-employer of staff.
Administrative Services Outsourcing also known as Administrative Services Only (ASO) is a specific form of HR outsourcing where a third-party company takes over management and processing for health plans and healthcare benefits. The ASO company only administers the benefits and does not source or ‘own’ those benefits, in the way that a PEO would.
PEO vs Umbrella Company
An umbrella company is the formal employer of professionals who work on temporary agency contracts, often through the intermediary of a recruitment agency. The umbrella company takes care of tax withholding and compulsory contributions on behalf of individual contractors.
This HR model is popular in the UK, and a similar model is popular in France, where it is known as Portage Salarial. This rather complicated structure can be explained through the following example: Imagine that the Ministry of Silly Walks wishes to engage policy analysts for a temporary project (e.g. Brexit implications for silly walks). They might engage a recruitment agency, Public Recruiters Ltd, to seek out and engage the right talent for them. Once the policy analysts are found, instead of Public Recruiters Ltd directly engaging the policy analysts, Public Recruiters Ltd could pay an umbrella company that directly employs the policy analysts.
The rationale for umbrella companies is that recruitment agencies typically prefer to issue contracts to limited companies, in order to reduce their liability.
In general, an umbrella company service does not provide the full suite of administrative employment services that a PEO would. For example, they do not terminate or assist with the termination of employees, or deal with other disciplinary matters. Their primary purpose is payroll and payroll tax processing.
An umbrella company also usually only deals with contractors on temporary contracts. They do not formally employ workers on an ongoing basis as a PEO does.
What Are the Benefits of a PEO Solution?
PEOs are staffed by experienced human resources, tax, legal, and payroll specialists. Having a business arrangement with a PEO allows a company to expand faster, more affordably, and with less risk than other alternatives.
According to the National Association of Professional Employer Organizations, small businesses that work alongside PEOs have an employee turnover rate that is 10% to 14% lower than businesses that operate on their own. These businesses also grow at a rate that is between 7% and 9% faster than their counterparts. While the research relates to domestic PEOs, we are seeing similar results with international PEOs.
Some of the most important benefits of using a PEO are set out below:
1. Reduced costs
Using a PEO allows you to skip expensive and time-consuming establishment processes. To hire employees across states/provinces/other countries this would usually be required. The biggest cost saver comes from not having to establish a separate legal entity. Other significant cost savings can be made through:
- Streamlined payroll and compliance processes, which are already optimized for local conditions.
- An efficient onboarding process for new staff.
- Access to cost-effective deals for employee benefits, such as private providers of health insurance and workers’ compensation
- Avoiding compliance penalties and enforcement action, resulting from a poor understanding of the local environment.
2. Faster market entry
Because your company does not have to wait for the bureaucratic approval associated with establishing a separate entity, you can quickly enter the market and take advantage of opportunities faster. In many situations, you can deploy staff in a matter of days.
Time is also saved through support with recruitment, onboarding of staff, and compliance with local human resources, as well as taxation laws and regulations.
3. Enhanced compliance
One of the most significant benefits of using a PEO is outsourcing the complex regulatory compliance task to an employment law expert. For local employees, this means outsourcing responsibility for employment and HR matters to a specialist up-to-date with the latest laws and regulations.
When operating internationally, a global PEO processes the hiring of international employees in a compliant manner. They also support companies to compensate their employees in accordance with local laws and regulations; and sever the employment relationship if this becomes necessary.
PEOs will alsoi ensure that companies withhold the correct amount of tax from an employee’s compensation; and that employees receive their statutory benefits, in compliance with local laws.
4. Simplified de-registration and wind-up procedures
The laws relating to the winding down of a business are complex and can result in a lengthy and expensive exit from a foreign market. Failure to properly wind down a foreign business may result in the ongoing accumulation of tax liability, even for a non-operating business.
Additionally, significant penalties may be applied to the business and any of its directors. This could lead to a situation where future engagement in that market becomes far more challenging.
When operating internationally, using a PEO solution rather than a separate subsidiary means there is no need to formally liquidate and wind up a company.
5. Testing a new market whilst limiting risks
In order to grow across state lines, or internationally, many businesses will opt to test a new market. By engaging the services of a PEO, businesses can mitigate the cost of building a new branch or subsidiary.
The reduced cost and simplicity of using a PEOP rather than a subsidiary means that less is at stake compared to opening a full subsidiary in the new location.
How Do PEOs Work?
While PEOs differ in the services that they provide the most common core services are listed below:
1. Hiring and onboarding
PEOs are experts in compliant employee onboarding. They assist client companies by drafting compliant employment contracts, and onboarding employees into their new position.
2. Payroll processing
PEOs handle payroll processing in compliance with the rules pertaining to the relevant jurisdiction. This involves using manual and automated processes to ensure that a workforce receives the right wages/salary without error, therefore allowing the right deductions to be made, checking/auditing delivery, and other payroll-related matters.
3. Benefits administration
PEOs administer all employee benefits. This includes annual leave, vacation leave, and sick leave, as well as health insurance, workers’ compensation, allowances, retirement contributions, and other required benefits. Due to economies of scale, PEOs will often secure more cost-effective benefits packages than companies could achieve in their own right. The PEO also regularly reviews compliance and market offerings to ensure that client companies are getting the best deal, where there are choices available for employer contributions.
4. Tax
PEOs calculate and pay the required payroll tax liability and any other tax liability in relation to the employees of a client company. They ensure that client companies best optimize their tax bills, ensuring that any relevant deductions that are allowed in the country of establishment are made (for example, deductions for health insurance and ‘fringe benefits’).
5. Risk and compliance services
PEOs help to minimize the significant risks involved in business expansion into new locations. This is particularly valuable for start-ups and small/medium-sized companies who are unlikely to have the resources or local knowledge to determine all the risks that are associated with expanding into another state or country.
PEOs are particularly familiar with the risks associated with managing employees in another jurisdiction, such as employee complaints/lawsuits, workplace safety requirements, and managing workers’ compensation.
Significant compliance risks that global PEOs take into account and advise on include:
- Employee Misclassification. This is the risk that workers have been classified as contractors when they should have been classified as employees. A Global PEO can ensure you don’t pay back taxes and/or penalties for misclassifying workers. Read more about employee misclassification at What is Employee Misclassification?
- Permanent Establishment. This is the risk that a foreign enterprise will carry on business in a country in a way that attracts corporate income tax in that country. Note that a global PEO solution might still count as a permanent establishment, depending on the circumstances of the case. Read more about permanent establishment at What is Permanent Establishment and Why Does it Matter?
What Other Services Do PEOs Provide?
PEO services do not fit neatly into a single box. Outside their core services, many PEO companies supplement with a range of other HR and recruitment solutions.
Such services may include the following:
- Global mobility
This means supporting businesses in the transfer or secondment of staff (e.g. staff from head office) in applying for visas, and other immigration matters.
2. Legal and compliance
Sometimes specialist legal services are required to support international expansion, such as tri-partite agreements or contracts with local agents.
3. Legal entity setup
In some cases, you may seek to establish a local legal entity (such as a subsidiary of your multi-national corporation).
4. Annual & quarterly tax declarations
You could be liable for a range of taxes that are unrelated to payroll in your country of expansion. This can include corporate income tax, turnover tax (e.g. GST, VAT, or sales taxes), or digital transaction taxes. Global PEOs can often support you by ensuring full reporting compliance for these tax liabilities.
5. Training, Onboarding, and Outplacement Services
Global PEOs often provide training to support your workforce in your target country of expansion.
6. Recruitment and background check
Through recruitment services, PEOs may use traditional advertising, as well as a global network of business contacts to identify a shortlist of potential employees for your final sign-off.
7. Market Research and Market-Entry Advisory
A PEO can ensure that your international or cross-country expansion is informed by up-to-date, local market and compliance information.
Are There Limitations to Using a PEO?
A PEO solution is not appropriate for every business at every stage. It may make sense to transition from a PEO to a ‘full entity’ solution where:
You have enough employees in the target state or country to justify having your own payroll processing and HR functions. In these cases, you may still choose to outsource some administrative functions, in order to make crucial cost savings.
The size of your presence in the target country would mean that there are marketing benefits from having a branded presence in that country.
You would benefit from being able to enter into overseas transactions with other local companies, fully governed by local law.
Subsidies and rebates may require a locally incorporated company.
Read more about this topic at Should You Switch from a Global PEO to a Local Entity?
Which Type of Business Can Benefit from a PEO Solution?
1. Large Enterprises
Large enterprises such as Fortune 500 companies can benefit significantly by using a PEO to streamline payroll and benefits management. This is particularly true where large enterprises are expanding across multiple countries. Invariably, this is a much faster and more cost-effective solution for large enterprises than setting up a legal entity overseas.
2. Small and Medium-Sized Enterprises (SMEs) and Startups
PEO solutions can be an effective expansion solution for ambitious and growing SMEs. Engaging a PEO to take care of employee benefits or expand overseas means a scaleable hiring and HR solution. If the SME needs to wind back spending it can more easily end a PEO arrangement than shut down a legal entity.
3. Non-Governmental Organizations (NGOs) or Non-Profits
NGOs or non-profits often need to hire staff based in multiple overseas locations. In many cases, it is not feasible for NGOs to understand all the payroll, tax and compliance requirements that apply in all those locations. A Global PEO can hire these staff in place of the NGO.
How Much Does a PEO Cost?
PEO costs differ significantly depending on the type of services required. In the United States, PEOs usually charge on a ‘percentage of payroll’ basis of 2-15%.
Internationally, most PEOs charge a client company an annual or monthly flat-rate fee for each employee, ranging from $299 per employee per month to $899 per employee per month, depending on the provider and country of hire.
This rate may be higher depending on the terms of the agreement. For example, the client may want to provide an added contribution to existing employee benefits and salaries. The more tasks required, the higher the rate will be.
Companies should do their research and select aPEO that provides the best value for money. A PEO should offer high-quality, cost-effective services relevant to a business’s needs.
Streamline Hiring and Payroll with a PEO Solution
Given the number of PEOs today, choosing the right PEO for your business can feel overwhelming. When you partner with Horizons, your business can tap into emerging international markets; without needing to establish a local entity or subsidiary, and in full compliance with local and international laws. And by fast-tracking your access to new markets in days – not months – your business can save thousands in expansion costs.
Let us know if you’d like us to fast-track your international employee hiring, saving you time and money.
Frequently Asked Questions
A PEO is a Professional Employer Organization: That is, a company that takes over the payroll, compliance, tax and HR responsibilities of a client company.
A PEO takes over as the administrative employer of a company’s workforce. As well as managing payroll, tax withholding, HR and compliance, the PEO becomes legally responsible for those matters.
By contrast, a payroll company is an outsourced payroll processing provider. They process the payroll as a service provider for a client company, but do not take on any legal responsibilities or liabilities.
A PEO is a co-employer, meaning that the PEO is the administrative employer of your workforce for tax purposes, but you retain the authority to run your business and make day-to-day decisions.
Opting for a Professional Employer Organization (PEO) can enhance the employee experience and lighten your load of administrative and HR tasks. By partnering with a PEO, you can redirect your attention to mentoring and managing your staff and enriching the company culture, rather than getting overwhelmed by paperwork and administrative duties.
When operating internationally, the terms Employer of Record and Professional Employer Organization are usually used interchangeably. In the United States, PEO has a specific legal meaning relating to registered co-employment services. This means that while in the US, an Employer of Record company would usually become the legal employer of a workforce, a PEO usually wouldn’t. To further confuse matters, some companies operate in the US both as Employers of Record and as PEOs.
