The Small Business Owner's Complete Guide to Payroll Compliance in 2025

Payroll compliance might not be the most exciting part of running a small business, but getting it wrong can be a real legal headache. If you miss a tax filing deadline or misunderstand a change in tax laws, you could end up with fines and frustrated employees. 

Understanding payroll compliance helps you pay everyone accurately and on schedule—and leaves you time to plan your next big win!

In this guide, we’ll dive into everything you need to follow payroll regulations and stay on top of federal and state tax laws for taxes. Plus, we’ll help you build a day-one payroll compliance strategy that helps your small business avoid common mistakes for small businesses.

TLDR; Essential payroll compliance laws and rules

Need a quick summary for staying on top of payroll regulations? These are the absolute essentials!

The federal payroll compliance laws you need to know:

• FLSA (Fair Labor Standards Act)
• FICA (Social Security and Medicare)
• FUTA (Federal Unemployment Tax)
• Federal income tax withholding
• Equal Pay Act

The state and local payroll laws you’ll want to figure out:

• State income tax withholding basics
• SUTA (State Unemployment Tax Act) requirements
• Workers' compensation requirements by state
• Paid family leave and disability programs
• State-specific minimum wage and overtime rules

Who is responsible for payroll compliance:

• The business owner
• An HR admin
• An internal bookkeeper
• An external accountant

Steps for building a payroll strategy:

• Make a compliance checklist
• Create a compliance calendar (with deadline reminders!)
• Keep records for at least three years
• Decide if you want: DIY payroll, payroll software, a full-service provider, or a hybrid model
• Keep an eye on changing payroll laws

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What is payroll compliance and why it matters for your small business 

In simple terms, payroll compliance refers to how your business follows the legal requirements for getting employees paid correctly and on time. Think keeping accurate payroll records, following payroll tax laws, and submitting the right paperwork and reports.

The downside of non compliance? Your business can get hit with significant fines that are tough on a small business. Avoiding payroll errors protects you from expensive penalties and government audits.

Plus, getting everyone paid on time builds trust with employees and protects your reputation. Everyone likes a business that treats its people fairly!

Who is responsible for payroll compliance in your small business?

The business owner is always responsible for payroll compliance, but payroll processes can be shared between your team, including:

• An HR admin
• An internal bookkeeper
• An external accountant

The right choice really depends on your business’s size and growth. If your small business is growing rapidly, employment laws might not be top of mind.

A great alternative is to give a trusted team member control over payroll processes, as long as you regularly check in. Plus, using payroll software can automate a bunch of the tedious paperwork.

If no one feels confident navigating tax regulations or employment laws, outsourcing to an accountant is likely your safest bet.

Federal payroll laws every small business must know

These payroll laws are non-negotiables—they’re must-knows for every business owner:

Fair Labor Standards Act (FLSA)

The FLSA sets rules for federal minimum wage, overtime pay, record-keeping, and youth employment to protect workers' rights:

• Federal minimum wage requirements: As of 2025, the federal minimum wage is $7.25 per hour. But it doesn’t end there—state-level minimum wage requirements may require that number to be higher.
• Overtime wage and hour rules: Most employees qualify for overtime pay (1.5 times their regular rate!) for any hours worked over 40 in a 7-day week.
• Tracking payroll records: FLSA requires that employers keep three years worth of payroll records for their employees. Here’s a full list of those record-keeping requirements.
• Child labor restrictions: Have minors or students on your team? 16 is the minimum age for most non-hazardous jobs. The rules are different for family businesses, and state laws also have their own restrictions. Check out the details here to make sure you’re staying compliant with labor laws.

Federal Insurance Contributions Act (FICA)

Both employers and employees pay FICA taxes—these taxes are used to fund Social Security and Medicare benefits. These payroll taxes are different from income tax, which funds general government operations.

As of 2025, FICA taxes come out at:

• 6.2% for Social Security tax (up to the first $176,100 of employee earnings)
• 1.45% for Medicare tax (plus an extra 0.9% for employees who make over $200,000)

As the employer, you need to make sure those FICA payroll taxes are automatically withheld from paychecks! 

Federal Unemployment Tax Act (FUTA)

FUTA requires employers (not employees!) to pay a payroll tax that funds unemployment benefits for workers who lose their jobs through no fault of their own. 

The current FUTA tax rate is 6.0% on the first $7,000 of each employee’s annual wages. However, if taxes are filed correctly and on time, most employers can receive a credit of up to 5.4%, which drops that rate to 0.6%!

Federal income tax withholding

When it comes to federal taxes, the employer is responsible for withholding the correct amount for employees’ paychecks. An employee’s pay should be reported to the Internal Revenue Service (IRS) every pay period.

Federal income tax withholding is determined by federal tax brackets, as well as an employee’s:

• W-4 form
• Annual income
• Filing status

If the IRS flags that the employee doesn’t have enough withholding, they’ll send you a lock-in letter so you can get that number sorted out and avoid penalties.

State and local payroll requirements

While federal income tax goes to the IRS, state income tax goes to your state’s tax agency, and is based on state-specific rules. In fact, Alaska, Florida, Nevada, New Hampshire, South Dakota, Tennessee, Texas, and Wyoming don’t collect state income tax at all!

Here’s some information about your local and state payroll legislation:

• State Unemployment Tax Act (SUTA): Similar to FUTA, this required payroll tax benefits unemployment services on a state level. Employers typically pay for SUTA, but in Alaska, New Jersey, and Pennsylvania, employees also contribute.
• Workers' compensation: With the exception of Texas, all states require employers to have some form of worker’s comp insurance. Premiums that are based on things like industry, location, and duties.
• Paid leave and disability programs: The federal Family Medical Leave Act (FMLA) provides protected leave for employees for certain family and medical reasons—but unfortunately, it’s unpaid. However, there are different rules for Paid Family and Medical Leave (PFML) by state, which helps lay out the minimum you can offer based on where your business is located.
• State-specific minimum wage and overtime rules: When it comes to employee wages, state laws always outrank federal laws! Knowing your local minimum wage is step one of payroll compliance.

Employee classifications

The difference between an employee and an independent contractor is often confusing for small businesses. So let’s clear things up!

An individual is an employee if:

• You control where, when, and how they work
• You control their finances (pay, reimbursements, etc.)
• There’s a written employment contract with benefits like insurance and paid leave
• Their work is long-term and central to your business.

If none of these apply, you’re likely hiring an independent contractor. For example, imagine you run a daycare and decide to hire a food truck for a one-time summer event, the truck owner would be an independent contractor.

Misclassifying employees can lead to fines, and, if the IRS thinks you’ve done it intentionally, criminal charges. Independent contractor laws can also vary by state, so remember to do your research before hiring.

Equal pay and anti-discrimination laws

Pay equity is another part of payroll compliance, and is enforced by these laws and regulations:

• The Equal Pay Act (EPA) prohibits sex-based pay disparities so everyone gets equal pay for equal work.
• The National Labor Relations Act (NLRA) allows employees to unionize and negotiate with employers. Employers are also not allowed to do things like bribe, threaten, or fire employees for collective bargaining. 
• Pay equity and transparency laws require public transparency about pay information. As of 2025, 14 states will require pay transparency for all businesses. 

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Unfortunately, despite these laws, pay disparity is still a reality in 2025, particularly for women of color. It’s good to ensure compliance with payroll laws, but it’s better to seek out opportunities to address the pay gap.

Even if your small business is on a tight budget, you can still prioritize pay equity:

• Learn more about implicit bias
• Regularly audit your employee wages
• Make equitable hiring a priority
• Offer flexible work schedules
• Budget to go above the minimum wage
• Benefits, benefits, benefits!

When it simply isn’t possible to increase salaries, you can always ask your employees a key question: “What changes would help you with work-life balance?” Their answers might surprise you, and help you improve internal processes across the board.

The most common payroll compliance mistakes small businesses make

Worried about stumbling into a non compliance failing?

Here are the most common mistakes that happen with small businesses:

• Tax-related errors like miscalculating withholdings, missing tax deposit deadlines, and filing incorrect or incomplete forms.
• Classification and documentation errors like the dreaded employee vs. contractor misclassification, improper overtime calculations, and clumsy record-keeping with documents like payroll records.
• New hire compliance failures such as errors with I-9 forms and E-verify requirements, failing to report new hires to state government agencies, and making payroll errors on day one.

If you’re feeling uncertain, you can always check in with an accountant—or with another small business owner. Everyone has had the same worries as you at some point, and you could find support (and networking opportunities!) in unexpected places.

The bottom line: what non compliance really costs small businesses

Seriously though, protect yourself from payroll compliance risks. There are some parts of small business ownership where you can get experimental, but payroll laws aren’t it!

Intentional or not, non compliance can land you with:

• Financial penalties and interest charges
• Legal liability and litigation risks
• Negative impacts on your reputation
• Damage to employee relationships
• A huge time sink trying to fix mistakes

Build your payroll compliance strategy

The best way to ensure payroll compliance? Build a trusted payroll system!

Create a payroll compliance checklist

As a small business owner, you’ve got a lot to keep track of day-to-day. A payroll compliance checklist helps take the pressure off by keeping track of the important details for you.

Your checklist can include:

• Daily and weekly payroll tasks
• Monthly compliance requirements
• Quarterly and annual obligations
• Emergency procedures and backup plans

Set up a compliance calendar and deadline reminders

Your payroll compliance strategy isn’t just about the what, it’s also about the when.

Consider building a compliance calendar with automated reminders for deadlines regarding:

• Monthly payroll tax obligations
• Quarterly reporting requirements (Form 941, state reports)
• Annual requirements (W-2s, 1099s, Form 940)

A year-end compliance checklist is another way to make sure you successfully wrap your payroll reporting for end-of-year.

Homebase Tip: Our payroll software automatically submits your new hire reporting, and files and distributes W-2s and 1099s each year. Let’s save you a step!

Keep essential records (for the right amount of time!)

Like we mentioned before, FLSA requires employers to keep three years of payroll records for current and previous employees.

These records include:

• Employee files and documentation
• Payroll registers and time records
• Tax forms and payment records

When it comes to records, small business owners have different opinions about old-school paper records versus digital record-keeping.

There are pros and cons for both options:

• Digital payroll records are more efficient, time-saving, and easy to automate. However, you also have to consider security issues with data protection and be prepared for when tech issues show up.
• Paper payroll records protect you from those digital threats, but are error prone, take up a lot of space, and are vulnerable to damage.

While we personally think digital options make sense in an increasingly digital world, there’s no harm in keeping essential paper records as back up!

Choosing the right approach to small business payroll

Depending on the size and needs of your business, there are a few approaches you can take to payroll solutions:

• DIY payroll makes sense for a small team where it won’t take too much effort to track hours and submit documentation. This approach won’t scale with you, but when your business is young, sticking to the basics can help save costs.
• Payroll software streamlines and automates your payroll processes as your business keeps growing. Tracking hours, calculating overtime based on local and state laws, and built-in tip pooling are just a few features great payroll software comes with. (Psst—that’s us! We’re the great software!)
• Full-service payroll providers can answer all of your questions one-on-one and help you with complex business needs. If your business is rapidly growing, personalized consulting can help you through each stage.

Your payroll solution can also follow a more hybrid approach. If you think you can run payroll yourself but would sleep better at night knowing it’s been checked over, you can always have an accountant look over your work!

Stay current with changing payroll laws

Payroll compliance laws tend to change, especially on a state level, so it’s good to periodically check on government websites for new information. This is one spot where your payroll compliance checklist can come in handy!

You also might also get updates from: 

• Payroll software providers
• Your personal accountant
• Small business associations

There’s usually some lead up time before new laws are officially put into place, so as long as you keep yourself informed, it’s unlikely that you’ll miss anything key. If you’re confused about the wording of new policies, or if you realize you’ve accidentally been non compliant, that’s the time to reach out for some professional guidance.

Special situations

Payroll compliance looks different depending on the organization, and small businesses have some of their own unique quirks.

Hiring your first employee

The day you hire your first employee is an exciting one—and the perfect opportunity to establish compliance from day one!

Before you start onboarding, be sure to:

• Create a first payroll checklist
• Have your payroll software in place
• Get any necessary IDs and accounts for your business (EIN, state accounts, etc.)

With the right systems in place, you won’t even blink when your new hire has questions about overtime or setting up direct deposit.

If you’re following the small business tradition of hiring a family member first, check out this blog post on some of the legal stuff to keep in mind!

Seasonal employees and fluctuating workforce

If your business comes with a busy season, you might choose to take on some temporary employees to manage the rush.

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Here are a few things to keep in mind when hiring seasonally:

• FLSA laws still apply to temporary employees
• Hours aren’t limited for seasonal employees
• Establish if they’re an employee or independent contractor

Often, more employees means more time managing payroll, which is why streamlined processes are essential. Better yet, trusted payroll software can automate your work, and save you from tedious tasks like manually calculating work hours.

Remote and multi-state employees

While local remote employees usually don’t have special payroll needs, things get a bit more complex with multi-state workers:

• Registration: You’ll need to register with each state’s tax authorities where your remote workers are based to stay compliant.
• State Income Tax Withholding: You’ll need to withhold taxes based on where your remote employees are, not just your business location.
• State Taxes: Each state where your employees work requires payroll tax payments, including unemployment insurance, income tax, and sometimes even local taxes (like New York City’s own city tax!).
• State Forms & Deadlines: Make sure your payroll compliance calendar has unique state deadlines in mind.

When to get professional help

If you’re feeling in over your head about federal or state payroll compliance laws, it’s totally fine to reach out for professional help. Chartered Professional Accountants (CPAs), HR consultants, and payroll services could all be useful for answering your questions.

Paying fees for professional help might feel uncomfortable, especially if you’re just starting out, but weigh them against the time and financial cost of getting hit with non compliance penalties. If you think hiring a pro would give you some peace of mind, it’s worth a shot!

Set your business up for payroll success

Seriously—don’t stress about payroll compliance. Stick to a good strategy, keep up with tax laws, and you’ll be good to go! Whether you're just starting or growing your team, staying organized and informed keeps your business compliant and your employees happy.

And if you’d like to put the work in trusted hands, we’re here to help!

At Homebase, our software automates your payroll processes while keeping you compliant. We automatically calculate hours, breaks, overtime, wages, AND taxes no matter what your local laws look like. Plus, employees can access all of their pay information in a single mobile app.

Reach out today to learn about what we can do to help your small business make payroll a breeze!

Frequently asked questions

Payroll laws change frequently—always verify current requirements with your state and federal agencies or consult a qualified professional.

Do payroll compliance laws apply to businesses with just one employee?

Yes, federal and state payroll laws kick in as soon as you hire your first employee. You'll need to withhold income taxes, pay FICA taxes, and follow record-keeping requirements. FUTA is the exception—you don't pay federal unemployment tax until you've paid wages of $1,500 or more in any quarter, or had at least one employee for 20 weeks.

What happens if I make a payroll tax mistake?

Don't panic—mistakes happen! Fix them as soon as you discover them by contacting the IRS or your state tax agency. Minor mistakes might result in small penalties, while major errors can lead to bigger fines. The key is acting fast and working out a correction plan.

How often do I need to run payroll?

There's no federal requirement, but state laws vary widely. Check your state's specific requirements—some require weekly payments for hourly workers, others allow monthly. Common schedules are weekly, bi-weekly, semi-monthly, or monthly. Just stay consistent and communicate clearly with your team.

Can I change payroll frequencies?

Yes, but follow proper procedures. Check your state laws first (some have restrictions), give employees advance notice (usually 30 days), and make sure the change doesn't violate employment contracts. Plan carefully since it affects cash flow and might confuse your team.

What records do I need to keep and for how long?

The FLSA requires payroll records for three years, including employee files, time records, and tax forms. Some records need longer retention—the IRS recommends keeping employment tax records for at least four years. When in doubt, keep records longer rather than shorter.

How do I handle payroll when an employee quits mid-pay period?

Calculate their final pay based on hours worked up to their last day. Final paycheck deadlines vary significantly by state—some require payment immediately, others by the next payday. Include any required accrued vacation time and handle final tax withholdings properly. Verify your state's specific requirements.

How do I handle payroll corrections?

Act fast. For overpayments, you can usually deduct from future paychecks (check state limits). For underpayments, cut a check immediately. You'll also need to file amended tax forms if the error affects withholdings. Document everything for your records.

When do I need to start withholding taxes for a new employee?

Start from their very first paycheck. Make sure new hires complete their W-4 form before payday. If they don't provide a W-4, withhold taxes as if they're single with no deductions. The IRS expects proper withholding from day one.

What should I do if I can't make a payroll tax deposit on time?

Contact the IRS or state tax agency immediately. Late deposits come with increasing penalties, so address the issue promptly. If you're facing financial hardship, they may work with you on a payment plan. Get your deposit made as soon as possible to minimize penalties.

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