Top Reasons Businesses Leave Their PEO

August 3, 2020
This article posted in: HR Systems, Human Resources  Tags: HRIS/HCM, Human Resources

Is the convenience of paying your PEO really worth it?

 

If your business is using a PEO (Professional Employer Organization) or if your organization has ever considered using a PEO, take 8-minutes and read this blog.

This blog is not intended to go into the details of a PEO, the services they provide to companies, or the pros and cons of contracting with a PEO. However, just as a quick review, a PEO is an employee leasing organization working with small and medium-sized businesses to assist with managing payroll, payroll-related taxes, certain human resource functions, access to benefits and other employer-related functions necessary to running a business. Once one has an understanding of a PEO, it is not too difficult to grasp the overall value of the services provided by a PEO, but it does become hard to determine if the continuous cost for these services, year after year, is really worth the value (or perceived value) gained versus self-managing the various business functions the PEO is handling for an organization.

To get started, let’s look at a PEO in a completely different way. Try to envision the services of a PEO in terms of a food service that provides meals for your family (e.g. breakfast, lunch and dinner). Some families are very attracted to the convenience of having someone else be responsible for handling their meals. This type of service eliminates the need to determine what to cook for each meal, how much to cook, whether or not you need particular equipment to prepare and cook the food, shopping for the ingredients, or possessing any knowledge about cooking meals (e.g. methods of cooking, nutritional information, dietary restrictions, meal variety, etc.). We could even add that maybe one of the best conveniences of using a food service is by eliminating the dreaded clean-up aspect of making a meal in your own kitchen. Using a food service is fairly straightforward, you just order from the menu, pay the associated cost and everything is taken care of by the food service provider. Or, in our analogy, a small or medium-sized business can contract for certain business services to be provided by the PEO and they, in theory, handle all the rest.

For a period of time and under certain circumstances, using a food service is a logical and even a good, potentially long-term, decision. However, at some point, it may no longer make financial sense to continue to pay for the meal service (e.g. children grow up and leave home, a family member decides to be at home more, service rates continue to increase, etc.). It becomes something extravagant or lavish, not necessary or essential. The same is true for businesses who, for whatever reason, chose to use a PEO. There comes a time when the convenience of using the PEO may feel more like a luxury than a necessity. It’s hard to provide a precise answer, but typically firms with more than a few hundred employees should be taking a hard look and really comparing the costs and services of their current PEO against a combined approach of employing internal HR/Payroll professionals, a cloud-based technology partner and a full-service benefit and insurance broker. This combination might just be a better, more cost effective alternative.

By far, the biggest downside to either eating out or paying a service to provide meals for your family, rather than cooking at home, is the higher costs per meal and eventually the exorbitant costs spent over time. Even though 175,000 U.S. businesses use a PEO, stated by the National Association of Professional Employer Organization, the vast majority of U.S. businesses (approximately 32 million) manage and pay their employees with their own internal HR and payroll teams using some sort of software technology solution and partnering with a full-service benefits broker. Said a different way, most businesses are willing to buy the ingredients and utensils, prepare and make their own meals from home, rather than eat out or pay a service to provide them with meals on an on-going basis. Why is that? In our opinion, it’s a combination of costs, control, and quality of service. And of these three, and as you can probably gather, the primary driving force for families to stop using a food service, or for businesses to transition away from their PEO, is the significant costs savings. We’re not going to sugarcoat it, leaving a PEO can be a bit of a challenge. But, when done correctly, it can be well worth it.

 

Top Reasons Businesses Leave Their PEO

1. Cost Savings
2. Enhancements to Benefits and Insurance
3. Enhancements to Technology

Reason # 1 – Cost Savings

It’s important to understand the fees and costs associated with PEO billing. There are two common price structures or methods PEOs charge clients for their services:

Note: regardless of the billing method, most PEOs include (6) standard costs (whether they are bundled or not) sometimes referred to as ‘pass-through” costs (i.e. FICA, FUTA, SUTA, Workers Compensation, Employee Benefits Premiums, Administrative Fees).

Other PEO billable fees include services for HR consulting, a technology platform or software to manage employee and business functions (e.g. employee HR data, time collection, payroll processing, tax management, health benefits, retirement services, regulatory compliance assistance and even call center support).

Let’s go through both PEO billing models using some general estimates in order to determine the normal annualized costs charged by a PEO. Both of these scenarios will exclude additional PEO fees beyond the 6 standard costs mentioned earlier.

PEO Billing Model Scenario

⇒Percentage of Overall Payroll (POP) Method

The POP pricing method is common for PEO vendors such as ADP TotalSource.

Note: When any employee receives a pay increase or a bonus check, so does the PEO. Keep in mind that this method is not advantageous for organizations with large amount of commissions or bonuses paid out to employees. PEOs benefit when the employer payroll increases as the PEO takes a percentage of the overall payroll.

⇒Per Employee Per Monthly (PEPM) Method

This PEPM pricing method is common for PEO vendors such as TriNet, Insperity and Sequoia.

Note: The PEPM pricing method is fixed or a flat rate and does not fluctuate up or down with your payroll. PEOs will only benefit when the company grows and hires more staff.

Another item to mention is that in both billing models, the PEO gets the benefits of all pre-tax benefits and tax credits (i.e. Section 125 Benefit Plans or Work Opportunity Tax Credits). Neither of these savings are passed on to the customer and are retained by the PEO.

PEO Apples to Apples Comparison

PEO Costs Compared to Internal Self-Management Organizational Costs
In order to compare the costs of a PEO versus internally administering the same services provided by the PEO, we must first understand the resources and services needed in order to perform a true apple to apples comparison.

To manage and administer the PEO services internally, a combination of internal human resources, some type of human capital management technology or software, and a full-service benefits broker is needed. For our scenario, the following list of resources and services will be used in order to do an apple to apples comparison.

These following items are being excluded since they are billed as part of the overall PEO administration fees.

The best way to compare the PEO costs to self-managing is to break it down into 3-parts

Part A – The Technology

Mid-market HRMS/HCM technology solution suites are most commonly comprised of functionality for HR, payroll, tax management, time and labor, scheduling and talent management.* The subscription cost for this type of integrated system will range between $20-$28 PEPM.

* A detailed explanation pertaining to the differences between types of HRIS systems (i.e. HRIS. HCM, and HRMS) can be found here.

Areas included with a HRMS/HCM subscription technology solution: Digital I-9 processing, ACA management, Federal compliance reporting, benefits administration, a tax specialist, a benefits open enrollment specialist, and some training content delivered via an LMS platform.

Note: Compliance items Not included in HRMS/HCM vendor subscription fees, but can be added to the costs by utilizing either a full-service benefits broker or a third-party provider includes background checks, COBRA administration, unemployment compensation management (UCM), employee handbook and policy manual(s), and content focused on Federal compliance (e.g. sexual harassment).

Part B – Staff Resources

Depending on your geographical location around the U.S., salaries for employees can vary widely. In our scenario we are going to use national averages provided by Indeed. We are also going to use only two people resources for our business case even though The Society of Resource Management (SHRM) recommends the HR-to-employee ratio to be 1-to-100 (one HR/payroll full-time equivalent (FTE) staff for every 100 full-time employees.

To keep it simple, we are going to add 30% to calculate the projected burden factor for estimated employee costs which will include employer taxes and benefits.

The total projected costs for staff resources would be $159,950 annually

Part A – Technology Costs = $141,600
Part B – Staff Resource Costs = $159,950
Part C – Benefits Costs = TBD
Total Costs for Technology and Staff Resources = $301,550

In the two PEO billing model scenarios above, the estimated annual PEO service costs were $758,148 for POP method or $540,000 for PEPM method. Even though the sample scenario may not be an exact service comparison from the PEO to the self-managed Technology and Staff Resources (Part A and Part B above), there is clearly a large opportunity to see why businesses leave their PEO and manage it themselves (see potential savings below).

PEO Percent Fee vs Flat Fee

Part C – The Benefits and Insurance

Projected costs for benefits and insurance is quite difficult because of all of the variables associated with the benefit provider, types of benefits, coverage, and deductibles. This is an area that a full-service benefit broker specializes in and can help with a cost analysis between the PEO benefit offerings compared to the brokers tailored benefits package. As a result, we are not going to provide costs or even attempt a good faith estimate for this part of the PEO versus self-managing cost calculation. Ultimately, you will need to know how the PEOs’ benefit and insurance costs differ from what the full-service benefit broker will charge, but with that component to the side there should be a significant financial saving opportunity to cancel a PEO contract.

 

Reason # 2 – Enhancement to Benefits and Insurance

Both benefit brokers and PEOs provide expertise with regards to benefits and insurance. In addition to providing benefits to their clients, a PEO also provides expertise and guidance in various business function areas (e.g. HR, payroll and compliance). They are both specialists in their respective industries. The question becomes which professional offers better coverage and better service, a PEO or benefit broker?

Unfortunately, there is no hard-and-fast or clear-cut answer. However, based on years of experience in the HR technology arena and implementing hundreds of clients with various people management software solutions, customers have time and time again expressed seeing significant value in using a full-service benefit broker to help personalize a select few benefits and insurance offerings as compared to a broad portfolio of 20+ plans typically offered by a PEO.

Here are a few key areas of using a full-service benefits broker over a PEO:

 

Reason # 3 – Enhancement to Technology

Generally speaking, PEOs have done a reasonably good job of offering an intuitive application platform, especially in the areas of mobile capabilities and employee self-service. Unfortunately, one of the big downsides of using the PEOs’ software platform is that the software is very much an ‘out-of-the-box’, one-size fits all system typically designed for smaller organizations. This can be challenging as every business has a few novelties or uniqueness’ about the way in which they track, maintain and conduct business processes. In the HR technology marketplace today, there are numerous applications offering greater depth, breadth and flexibility with people management functionality.

Here are just a few functional areas of an HRMS/HCM solution that adds notable enhancements and greater value over a PEOs’ platform:

Trapped in PEO

 

In closing, there are several additional reasons why businesses leave their PEO beyond the three primary reasons (i.e. cost savings, enhancements to benefits and insurance, and enhancements to technology) outlined above. Businesses may also terminate their PEO relationship due to cost surprises, poor service, lack of expertise, cultural differences, perceived value or international expansion.

It takes time, careful consideration, work and proper guidance from a knowledgeable benefit broker or other similar specialist to exit from your PEO. You will need to assess your current HR and people management related needs, conduct a thorough analysis of your current PEO services and associated costs, and create a detailed implementation plan to ensure a smooth transition. Remember, the decision to “get out” of the PEO relationship is more than just costs.

If you are unable to justify the escape from your PEO on costs, don’t forget about gaining back control and flexibility, the ability to enhance benefit offerings and the enrollment experience, providing a more robust and configurable people management technology tool, offering greater and more personalized people management functionality, improving company culture and boosting employee engagement. These types of changes are difficult to assign a monetary value, but rest assured they have a very big impact on your workforce. For most companies that make the transition away from their PEO, they will agree that the journey was challenging but well worth it in the end.

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About the Author:

Mike Maiorino

Mike Maiorino is the Founder and CEO of HRMS Solutions. His 30 years of dedication to the HR/ Payroll technology profession, with a proven track record of results and recognition, has earned him a reputation for being a subject matter expert regarding HCM Solutions. Mike has served in a number of sales and managerial positions for leading providers of HR and Payroll solutions, including ADP, Sage Software, Kronos and Infor (fka SSA Global / Infinium). He is a member of the BAHRA Chapter (Boulder Area Human Resource Association) and completed his certification as a PHR (Professional in Human Resources) in December, 2002. Mike was also recognized in Biltmore Who's Who in 2007 as one of Washington, DC's most distinguished members.

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