Deciding whether to pay your staff more, or hire new employees

Oct. 21, 2014
Is it worth it to pay overtime to your current employees, or would it be better to pay for an additional employee?

Overtime pay is a frequent occurrence in many shops I visit. As a former business owner, I understand that situations arise that warrant having employees work extra hours during a week to meet a deadline. But if overtime has become the norm, I pose this question: Is it worth it to pay overtime to your current employees, or would it be better to pay for an additional employee?

Paying overtime should always be a business decision made after reviewing the facts and comparing your options. Ask yourself: Do I really have enough work to warrant the expense of overtime hours – or could my staff do a better job of managing workflow and deadlines? Once overtime habits have started, they can be difficult to reign in. That’s why shop owners should have well-defined overtime rules and expectations set with managers and employees. Those rules should be enforced so that overtime doesn’t become a bad habit. Without a need, overtime is simply an avoidable expense.

But maybe the shop has a backlog of work and overtime is needed to meet the demand. If production employees have reasonable productivity levels and are still regularly working overtime, it may be time to consider if adding another employee would be a smart move.

First, review payroll reports to determine how much is being spent on overtime each month. Because you are already paying these employees benefits and other expenses, the only additional cost associated with the overtime would be the FICA tax (7.65 percent of the wages). (Any other benefits that are wage-based also would be increased but these are not overly common.) This is the total being paid monthly as a result of the overtime.

Next, decide what type of employee you would add to reduce the overtime, and the expected hours and rate for that new employee. Calculate the monthly wages to be paid by multiplying the hours times the hourly rate (or divide an annual salary by 12). Additional expenses to add to the wages include the FICA tax (see above), federal unemployment of $42 per employee per year (this could be higher in some states), state unemployment tax (the percentage and wage base varies by state; you should know yours), health and dental insurance premiums, life insurance, retirement plan contributions, workers’ compensation insurance, uniform expense and vacation and holiday pay. Compare the total projected wages and expenses for a new employee to the total currently being paid for overtime.

Unless you are paying a lot of overtime, chances are that adding a new employee will be more costly than continuing to pay overtime to your current employees. However, in the case of a production employee, the additional cost may be offset by an increase in productivity because usually a new employee will work more than the total overtime hours put in by the other employees.

In the case of adding administrative staff who may not contribute to production, it might come to down to whether the addition of a new staff member will improve the quality of life, productivity or morale for your current staff members enough to warrant the additional expense.

Other issues to consider: A portion of the overtime paid can be deducted from the wage calculations with regard to workers’ compensation insurance, whereas a new employee’s wages would be included entirely. Additionally, if overtime is currently a common practice, what is the likelihood your employees would be willing to go back to working just 40 hours a week, essentially taking a pay cut? Will you still be paying overtime even with a new employee?

You may also want to consider: Would you be better off switching to a different pay plan (flat rate or commission)? Do any of your hourly employees qualify as overtime-exempt (make sure you understand federal and state guidelines for overtime)? Do you have enough work space for an additional employee?

 So start by making sure overtime expectations are clearly defined and consistently enforced. Although a need may exist for occasional overtime, business owners should analyze overtime pay periodically and consider alternatives using the financial facts at hand. 

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