A Fresh Look at Professional Employer Organizations
After a boom and bust, PEOs offer more services
If you’ve been running a business for a while, you may be familiar with professional employer organizations—PEOs. Sometimes known as employee leasing services, they grew rapidly in the 1990s, as small businesses found that they could cut costs and avoid headaches by outsourcing the administration of payroll and benefits to these outfits. This decade, however, brought a sudden reversal of fortune: As worker compensation premiums soared, hundreds of PEOs merged or disappeared and the industry image was tarnished by fraudulent PEOs that stole payroll deductions and by the collapse of others.
Now, however, it may be time to give PEOs a fresh look—especially to save money in critical areas such as health and retirement plans. That’s what led Sheila Berry, director of operations for Seminole Office Products in Longwood, Fla., to sign up with a PEO. Two years ago, the company was already using a payroll processor when Berry got the alarming news from her health insurer—a 20% rate hike. That was the last straw. Managing increasingly complex human-resources functions—the company had grown quickly from 37 to 50 employees--was already a problem.
Berry wanted a service that would save her money and manage the gamut of human resource functions, from advice about employment law and interviewing techniques to payroll and benefits. She eventually signed with Gevity, a Bradenton, Fla., PEO that provided everything from 401(k) administration to help with performance reviews. Berry estimates that she saved about $40,000 in health insurance costs in just the first year. Even better, she says, is saving management time. By using Gevity’s online system, for example, Berry says it takes 20 minutes to process payroll, an effort that used to take two to three days. What’s more, she has access to advice she would never have been able to tap otherwise. “If you’re a small business and don’t have an HR department, you’re a walking liability,” she says. “There are so many ways you can make a mistake.”
It’s not news to any small business owner that a true HR department is a luxury. That’s why companies routinely outsource a host of functions to a variety of providers—a payroll company here, an insurance carrier there. But managing those relationships takes time and the small client may not receive discounted rates on things like worker’s comp or health insurance. That’s where PEOs come in. By pooling many small businesses, they get attractive rates and their pros handle all the details. “They take away all those administrative headaches,” says Joyce Ruotzon, managing editor of Staffing Industry Report, an HR newsletter.
Ruotzon says the $11 billion industry—which now likes to be referred to as “co-employment”-- made great strides since hitting a wall a few years back. Today there are 500 companies in the business, compared with 800 15 years ago, she estimates, and one result is that PEOs are competing harder, expanding their services and evolving into full-service HR providers for small businesses. The average PEO client employs 18 employees, according to the National Association of Professional Employer Organizations in Alexandria, Va.
PEOs generally charge a per-employee fee of between $40 to $200 per year, depending on company location, industry and other factors. Some PEOs charge by emloyee slaries -- 1 percent to 5 percent of payroll. In return, the PEOs offer pricing on insurance and other services that individual small businesses could never match. Indeed, a PEO may make it possible for a company to offer benefits that it could not afford or manage on its own: Only about 4% of PEO clients have a 401(k) before signing on, according to Milan Yager, executive vice president of NAPEO. Virtually all of them do once they become customers.
Andrew Labetti, general manager of the Hotel Wales in New York City, started using ADP TotalSource, a Miami-based PEO service, three years ago for his 41-employee hotel. He estimates that he saves about $20,000 a year and countless hours of management time. “I would have to burden my comptroller and other employees with a lot of this stuff otherwise,” he says. “And they would be less effective in their jobs, as result.”
Another plus is access to big-company tools. Berry, for example, points to an online performance review system from Gevity that managers can use to help write their reviews. They also get coaching about the do’s and don’ts of interviewing and tips on how to fire an employee. Berry recently rewrote a job listing for an online site after consulting with her PEO, adding how much weight the individual would have to lift, something she wouldn’t have thought of including otherwise. “If someone didn’t know about that, took the job, and then pulled their back out, they could sue,” she says. In fact, a few years earlier, she had hired someone for a similar position without discussing the extent of the lifting involved. Sure enough, the person hurt his back.
Even though the PEO industry is cleaning up its act, using one requires caution. Depending on where you live, however, you may be on your own when it comes to eliminating bad apples. Twenty-six states require some form of licensing, but HR experts say the requirements tend to be fairly lenient. “Just because there is state regulation doesn’t guarantee that somebody is watching what people are doing,” says David West, executive director of the Center for a Changing Workforce, which conducts research on employment issues affecting low wage and temporary employees. Most important, according to critics, state rules generally don’t require that PEOs prove they have much capital or bonding capacity to back up the business.
As a result, you have to tread carefully—very carefully —when choosing your PEO. One step: Contact the Employer Services Assurance Corp, a 10-year-old accrediting organization—that also provides a $6 million surety bond for member companies. Only about 24 PEOs have the ECAS seal of approval so far, but they represent approximately 15% of total industry gross revenues, according to Yager.
Once you have chosen a PEO, contact your state unemployment office, as well as other appropriate government agencies, to confirm that they are receiving the payroll deductions for taxes that the PEO is collecting. Prosecutors in California, Utah, Florida and other states have investigated PEOs that have skimmed or stolen such payments. John Hanson, retired president of First Utah Bank in Salt Lake City, Utah, recalls the case of a PEO in the late 90’s, a client of his bank, that pocketed employer payments for tax withholding, leaving 75,000 employees in nine states high and dry. “The onus is on the employer to protect themselves and their employees,” he says.
Other steps to take: Get a sense of how solvent the company is. Verify that it’s been around for at least five years and make the company prove that it has some kind of bonding, says West. Also, do a background check on top executives and, if you can, find out from state regulators whether the company and individuals in the firm, have been cited by law enforcement or involved in many civil suits. And contact the state attorney general’s office to see if there’s been any litigation involving the company. In addition, look into the worker’s compensation carrier--how long it has done business with the PEO, and whether it’s licensed to sell worker’s comp in your state. The bottom line: PEOs can be great for your business. Just do your homework first.
