A professional employer organization (PEO), also known as an employee leasing company, provides services that businesses often seek to outsource, such as human resources, employee benefits, payroll, and workers’ compensation. PEOs also provide regulatory compliance services, as well as recruiting and training services. The PEO contractually shares certain employer responsibilities with the company through a co-employment arrangement. While the client company retains control over the day-to-day activities of employees, the PEO becomes the employer of record for tax purposes. Often, multiple client companies are pooled together under a single Federal Employer Identification Number (FEIN) for purposes of leveraging the benefits of being a larger employer.

Unemployment Insurance and the PEO-client relationship

Of major concern for both the PEO and the client company is the extent to which unemployment insurance (UI) is affected by this co-employment arrangement and how best to manage it. How to address this concern will vary by state. Some states allow a PEO to pool all of its clients under a single UI account number, while other states require the individual client companies to report unemployment under their own UI account number. There are some states that allow PEOs to arrange entities among several pools in order to qualify for the most advantageous UI tax rates (common rating).

With the many rules and regulations governing unemployment insurance, as well as the differences among states for how the cost of UI must be handled in a PEO relationship, one might wonder why an employer would enter into such a partnership with a PEO. The reason is that, in states where pooling is allowed, there are advantages available to larger employers that help mitigate the fluctuations in payroll or UI costs that smaller clients face. In states where pooling is not allowed, the reason for partnering with a PEO is usually connected to savings in health benefits, workers’ compensation, payroll, and other costs. In terms of UI, the PEO usually is experienced in managing claims and costs, allowing client companies to benefit from a better UI tax rate, thereby lowering their costs. To keep UI costs down, PEOs should employ best practices as part of their UI cost management program. In the following sections, we will discuss these best practices and other tips.

The importance of a strong tracking system

It’s essential to have a strong tracking system for claims, protests, and costs. Implementing a UI claims management system not only helps an employer control costs but can affect the employer’s tax rate. It also provides crucial information for audit purposes.

A PEO’s profits are dependent on the administrative fees it receives from its client companies, making cost management critical. As an example, if a PEO is not properly managing the UI costs of its clients, the tax rate for those clients will be higher, a cost paid by the PEO. To stay competitive, the PEO may not be able to mark up their cost at the desired percentage and is forced to reduce its administrative fee.

Implementing a strong tracking system enables the PEO to track UI and other costs by client, making it more effective at reducing the UI costs of each client. A tracking system also enables the PEO to identify problem clients — those who may need to improve cost management — and work to correct the issue.

A strong tracking system for UI claims, protests, and costs is critical for effective cost management. By employing best practices in the UI cost management system, a PEO can help keep employer tax rates down and increase profitability.