How does outsourcing payroll work?

Popular among UK businesses, a reported 61% of SMEs now outsource their payroll.* In our series of articles, you’ll find all you need to know about payroll outsourcing - from what it is and how it works; to how much it costs, the pros and cons of outsourcing payroll and even a handy payroll service-provider vetting list!

In this article we’re going to cover what payroll outsourcing is and how it works. 

What is payroll outsourcing?

Payroll outsourcing is the process of hiring a third-party service provider to manage a business's payroll function. It’s transferring or subcontracting the activity out. 

The kind of companies that provide this service range from:

- Local accountancy firms or bookkeepers with a payroll function – who usually manage payroll for smaller companies. .

- Larger, specialist payroll service providers who’ve often developed their own payroll software and provide services to support clients who use it. 

The services provided by these companies are also known as fully or partially managed payroll. How it’s known depends on the level of service provided by the supplier and the amount of input from the customer.

Outsourcing payroll can involve a range of services, from processing payroll and issuing payslips; answering queries from employees; submitting information to HM Revenue & Customs ('HMRC’); providing reports, forms and statements to employees and keeping businesses compliant with payroll legislation. Some service suppliers may also administer pensions and other benefits. 

Outsourcing payroll allows businesses to focus on their core operations and it saves time and resources that would otherwise be spent on managing payroll internally. 

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How does outsourcing payroll work?

Firstly, there’s payroll software. Most solutions are now cloud-based, which means they can be accessed by both the service provider and the customer from remote locations. Gone are the days when payroll was run on a specific computer with the software loaded locally! So, whether it’s proprietary software or you’re working with a service provider who uses someone else’s software, generally the solution can be accessed by both parties.

When a customer first moves over to a service provider, as part of the onboarding process, their employee payroll data will be extracted from their legacy system and set up in the new payroll solution, so it’s all loaded up, checked and tested.

Dependent on the service levels agreed between the parties, the customer may access the cloud-based payroll system to input data. The type of data includes:

• Starter and leaver information
• Hours worked for hourly paid staff, including overtime
• Holiday start and end dates and absences
• Approved leave for statutory purposes, including maternity, paternity, bereavement, adoption leave and sickness
• Changes to employees’ conditions – such as salary/wage or working time changes

Note: This may be different for micro companies who use an accountancy practice to run payroll on their behalf. The parties may have an agreement to securely send the employee data by another method. 

Some businesses keep some payroll personnel in-house who work with the outsourced payroll service provider. It all depends on the size of the workforce as, whilst the payroll provider does the majority of the work, there’s still some input needed from the customer. 

This is done for each payroll that’s run. After this information has been entered, most of the remaining activity is left to the service provider.

The outsourced payroll services provider is responsible for:

• Processing payroll from start to finish. This can also include making salary payments to employees, dependent on the service level agreement
• Calculating gross pay, net pay and deductions such as tax, National Insurance contributions (‘NICs’), pensions and other benefits
• Submitting the required information to HMRC such as the Full Payment Submission (‘FPS’) and Employer Payment Summary (‘EPS’) by the required deadlines
• Keeping the employers’ payroll function compliant with legislation
• Creating and distributing employee payslips
• Creating and distributing information and statements to employees like P60s, P45s and P11Ds
• Creating and submitting all required reports to HMRC by the deadlines 
• Once the payroll service provider has done all the calculations and checked the payroll, they will send it to the customer with the relevant reports who can carry out their own checks, if they wish, and/or they can sign off their payroll.

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What are the benefits of outsourcing payroll in the UK?

Outsourcing payroll can bring a range of benefits to businesses, including:

1. Cost savings - Outsourcing payroll can be more cost-effective than managing payroll in-house. Businesses can save money on salaries, benefits, and training costs for payroll staff.
2. Time savings - Managing payroll can be time-consuming, particularly for businesses with large numbers of employees. Outsourcing payroll allows businesses to focus on their core operations and save time on payroll-related tasks.
3. Compliance - UK payroll regulations are complex and subject to regular changes. Outsourcing payroll to a specialist provider can ensure compliance with these regulations and reduce the risk of penalties for non-compliance.
4. Scalability – with outsourced payroll, the payroll function can be more easily scaled as the customer’s business grows. The customer does not need to recruit and train new personnel which can be costly in terms of time and money.
5. Accuracy - Payroll providers have specialist expertise and software that can help ensure payroll calculations are accurate and free from errors.
6. Flexibility - Outsourcing payroll can offer businesses more flexibility in terms of payment frequency, payment methods and employee benefits.

In summary, outsourcing is becoming an increasingly popular choice for UK businesses. Outsourcing payroll can save time and money, ensure compliance with payroll regulations, and allow businesses to focus on their core functions. If you are considering outsourcing payroll for your business, it's important to choose a provider that has experience in your industry and can meet your specific requirements. If you’ve found this information useful, please take a look at some of the other articles we’ve produced:

• Which is the best payroll company?
• What are the pros and cons of outsourcing payroll?
• How much Accountants charge for running payroll?

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*source Cybercrew, Genius Outsourcing Statistics UK [2023], updated March 30^th, 2023