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The Complete Guide to Employee Cost: How to Calculate the Cost of an Employee

Table of Contents

Calculating actual employee cost is a critical factor for making sound financial decisions, no matter your company size or industry. For example, understanding the true cost of an employee allows your finance and HR teams to accurately budget for expansion into a new market.

Employee cost comprises several factors, such as employee salary, payroll taxes, supplemental benefits, and other expenses like company retreats and overhead. Employers must also understand the variables that impact employee cost, like location and market conditions.

With a strategic approach, your employee cost calculations can help you make the right decisions for your company. This guide covers everything you need to know about calculating accurate employee cost and offers key tips for how to reduce per-employee expenses.

How do you calculate employee costs?

Companies calculate employee cost by adding up all relevant costs associated with an employee throughout the year and dividing the sum into an annual, monthly, or hourly rate. The costs largely include gross salary and employer payroll contributions.

Use our employee cost calculator below to calculate and budget employee costs and payroll contributions around the globe:

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Below, we list variables that impact employee cost in different markets worldwide. We also offer a simple formula for accurately calculating the annual cost of your employees and suggest some useful strategies for cutting down your per-employee costs.

8 variables that impact employee cost

Below are eight variables that impact employee cost.

1. Location

The location your employee resides in heavily impacts employee cost because labor legislation and cost of living vary between jurisdictions. For example, the statutory pension tax in Quebec in 2023 is 12.8% and applies to earnings between CA$3,500 and CA$66,600 while the same tax elsewhere in Canada is 5.95% and applies to the same earnings range.

Cost of living also varies worldwide, impacting employee wage rates between cities and countries. For instance, a junior graphic designer in New York City will likely require higher pay than a junior graphic designer in São Paulo because the cost of living is higher in New York City.

How do you calculate employee cost of living?

Employers calculate employee cost of living by adding up the costs of goods and services on which consumers spend their money in the employee’s city or region of residence. Costs include items like food, housing, and healthcare.

The following cost-of-living indices from Numbeo illustrate how much living costs vary by country (relative to New York City's cost-of-living index of 100):

Cost of living + rent index by country in 2023

Chart comparing 2023 cost of living plus rent index in various countries.

2. Industry

The industry in which you operate also impacts labor costs due to varying tax rates between industries. For example, the unemployment insurance tax rate for new employers in Pennsylvania is 10.59% in the construction sector and only 3.82% in the non-construction sector. As a result, actual employee cost varies widely between industries—even within one state.

3. Company size

Companies face different cost structures due to their size. Large companies can usually offer employees higher salaries than small companies can. Higher salaries often help reduce turnover, cutting hiring and onboarding costs in the long run.

In competitive markets, a small business may struggle to match the salaries of a larger company and face higher turnover, which leads to increased onboarding costs over time.

Additionally, payroll costs are typically lower for a large company as it is often cheaper, per employee, to run payroll for 5,000 employees than for 20 employees. At the same time, larger companies face higher overhead and hidden costs, such as rent and work equipment expenses.

4. Market conditions

The cost of hiring an employee also depends on market conditions. In an employer-driven market, the cost of attracting top talent may be lower than in an employee-driven market. However, in an employee-driven market, companies must offer more competitive salaries and generous employee benefits packages to attract and retain top talent.

5. Unions

Employees who are part of a union may cost more than non-unionized workers. Employers are subject to the minimum wage cap set by the employee labor union, which is usually higher than the minimum wage for non-unionized workers.

Union wages can also impact employers who don’t hire unionized workers: If employers operate in an industry with labor unions, they may have to offer higher wages to compete for top talent.

6. Turnover rate

Companies with high turnover rates spend resources hiring and onboarding multiple employees over time. Recruiting and onboarding costs vary depending on your hiring strategy, but they can include job-posting fees, recruiting software, background checks, and the time and resources your HR team spends to fill each vacancy.

Read on to learn useful strategies for reducing employee turnover, such as offering tailored benefits packages to boost employee morale.

7. Roles and tasks

Experienced employees generally earn higher salaries than inexperienced employees. In a competitive market, an employee who can prove they have the rare skills and experience that a role requires can often demand a higher salary.

Over time, employers frequently offer additional supplementary benefits as employees remain with the company. Senior employees may receive more comprehensive benefits packages than employees in entry-level or mid-level positions, which impacts total employee cost.

8. Performance

The more productive your employees are, the more resources they save you. Poor employee productivity costs you more resources in the short term and increases your turnover rate. Companies may offer perks like performance bonuses, professional development funds, and additional paid time off to motivate employees and improve productivity.

Many strategies companies use to reduce employee costs can lead to increased costs elsewhere. For example, offering performance-based rewards is an added cost but may increase employee productivity and reduce turnover in the long run.

How to calculate the cost of an employee

Employee costs vary dramatically depending on the above variables. Payroll taxes, employee benefits, and other expenses further increase employers’ labor burden, making it harder to reach an exact calculation on their own.

Below is a general guideline for calculating annual mandatory employee costs beyond base pay.

1. Determine employee's gross annual pay

First, retrieve your employee’s gross annual pay before withholding taxes. In the example below, an employee from Quebec, Canada receives a gross annual salary of $C60,000.

2. Calculate payroll taxes

Next, calculate the total annual payroll taxes you must pay on your employee’s behalf. In Quebec, this includes several federal requirements plus two provincial requirements that only apply to employees in Quebec: labor standards and parental leave contributions.

Chart listing mandatory employer contributions for an employee in Quebec, Canada earning C$60,000 annually.

The above table reflects 2023 rates which are subject to change.

3. Add any additional expenses

Sum up the total cost of any additional annual expenses associated with the employee, such as supplemental benefits, onboarding costs, and work equipment.

Some of these expenses, such as office rent and company retreats, are group expenses. To get the total group expense cost per employee, add up the group expenses and divide the sum by your total number of employees. Add this number to the other additional employee expenses.

In summary, add together the employee’s gross annual pay, annual payroll taxes, and total additional annual expenses to get the total annual employee cost. You can further divide this by months or hours to determine the employee’s total monthly or hourly cost.

8 expenses to consider when calculating employee cost

Employers must consider a long list of expenses when making the above calculations—many of which they can easily overlook. Below are eight critical expenses to consider when calculating accurate employee costs.

1. Recruitment costs

During the recruitment process, companies face hefty costs in the form of job posting fees, applicant tracking software (ATS) subscriptions, and the time, energy, and resources the HR team spends filling each vacancy.

If you outsource your recruiting needs to an external partner, you will likely have to pay a commission or retainer amounting to 15% to 30% of the base salary of any position they fill.

2. Onboarding costs

Onboarding lasts 90 days on average and can take an employee up to a year to reach their full performance potential. During this period, companies face various onboarding costs, such as:

  • Paperwork. HR spends time and resources completing and filing paperwork for a new hire.
  • Workspace setup. Some companies offer up to USD$2,000 to help new remote employees set up their home office.
  • Travel and relocation. This includes flight tickets for the employee and their family, as well as their accommodation upon arrival.
  • Employee training and support. Employees spend time and resources training and overseeing the new hire’s daily work.

Helping new hires transition into their role sets the stage for their future with your company. It’s worth noting that, when done correctly, effectively onboarding international employees or local talent can drastically improve retention rates and reduce long-term employee costs.

Read more: How to Onboard Remote Employees With Success

3. Compensation

An employee’s base salary or base wages are the largest cost to your company. It's also one of the most easily measured costs. Salary or wage depends on several factors, such as their role, years of experience, and the market demand for talent with their skills.

Employees are also protected by minimum wage laws within their country or state. Employers must ensure their global compensation strategy complies with the employment laws of each jurisdiction in which they hire talent and is fair, consistent, and competitive.

According to Picodi, the national net, full-time employee monthly minimum wage in Australia was more than 10x the monthly minimum wage in Brazil in 2022:

Monthly minimum wages by country in 2022

Graphic showing the national net, full-time monthly minimum wage in various countries in USD in 2022.

(Wages converted into USD)

4. Statutory benefits

Statutory benefits vary between countries and states and can make up a significant portion of true employee costs. For example, Mexican employment law entitles employees to an annual holiday bonus worth 15 days’ salary. However, Spanish employment law entitles employees to two annual bonuses, each worth one month’s salary.

Other statutory benefits may include medical insurance, worker’s compensation, and a pension fund.

Learn more: What Are Statutory Benefits?

5. Supplemental benefits

Supplemental benefits are additional benefits that employers offer employees beyond the statutory minimums. While not required by law, offering supplemental benefits is a useful way for employers to attract and retain talent and improve retention in competitive markets.

Supplemental benefits vary between locations and are mostly up to the employer’s discretion and compensation policy. For example, German law doesn’t require employers to pay an annual holiday bonus, but many German employers offer employees supplemental pay for it anyway.

Supplemental benefits may also come in the form of health insurance, dental and vision coverage, retirement plans, or parental leave.

Learn more: What Are Supplemental Benefits?

6. Taxes

Taxes vary widely between countries and states. For example, the employer contribution rate for social security tax in the Philippines is 9.5%, 16.75% in India, and 6.2% in the United States.

Even within countries, tax rates vary. Looking at the U.S., the unemployment insurance tax rate for new employers in Pennsylvania is either 3.82% or 10.59%, depending on the industry. However, in Florida, the unemployment tax rate for all new employers is 2.7%.

Generally speaking, employers must contribute to several federal or state funds for each employee, such as unemployment insurance, workers’ compensation, and medical insurance.

7. Overhead costs

Every business in every industry faces overhead costs. These are the basic, necessary amenities and services you need for your employees to carry out their daily duties and keep your business running.

Overhead costs vary depending on the type of business you run, but below are some of the most common costs:

  • Office space rental. Rental costs vary, depending on the size and needs of your team.
  • Utilities. Utilities include fees for heating, water, electricity, or fuel for company cars.
  • Office supplies. Supplies include laptops, monitors, software, pens, paper, and other tools your team needs to perform their duties.
  • Company uniforms. Uniform costs vary widely between industries.

Many of these costs depend on the total number of employees in your company. Expanding your team beyond a certain threshold may require more office space and higher rent, which impacts total per-employee cost.

8. Hidden costs

You might easily overlook the cost of things like meetings, ongoing training, seminars, and company retreats when calculating employee costs. The size of your team also impacts these hidden costs; as your team grows, meetings take up more time, and retreats become more expensive.

4 ways to reduce employee costs

Offering remote work, building a distributed workforce, streamlining your global payroll administration, and offering more attractive employee benefits packages are highly effective ways to reduce employee costs.

1. Offer remote work

Some employers report thousands of dollars in annual savings per employee by having employees work from home two to three days per week. When employees work remotely, employers can eliminate or cut down on many overhead costs associated with on-site employees, such as rent, utilities, and office supplies.

Consider the following statistic from Global Workplace Analytics:

 

Graphic that says employers can save up to $11K per year for every employee who works remotely 2-3 days per week.

 

Remote employees also show increased productivity and lower absenteeism, improving retention and reducing long-term employee costs.

2. Build a distributed workforce

As remote work becomes more popular worldwide, more companies are starting to hire talent globally. By hiring employees in foreign markets, employers can source from a larger talent pool and easily find candidates with the skills they need at a price that fits their budget.

With a distributed workforce, employers also cut overhead costs such as rent, utilities, and office supplies and enjoy increased employee productivity and retention rates.

If you want to build a distributed workforce, consider partnering with a global employer of record (EOR). An EOR simplifies the entire process of global hiring by handling onboarding, compliance, payroll, and benefits administration, so you can easily build and manage teams across borders.

Learn more: What Is an Employer of Record?

3. Streamline payroll operations

Streamlining payroll operations is an effective way to cut down on employee cost—especially for global companies that must pay international employees and navigate various currencies and languages.

A global payroll solution streamlines all payroll operations into one centralized platform and offers many benefits, such as:

  • Accuracy and cost savings. Cut costs and eliminate errors by automating payroll administration.
  • Compliance. Gain peace of mind that your payroll processes comply with local labor laws.
  • Consistency. Retain top talent by delivering timely, accurate payments in every market worldwide.
  • Efficiency. Save time and alleviate stress by using one centralized platform instead of multiple vendors.

A global payroll solution cuts costs and handles all the heavy lifting, allowing you to spend more time focusing on your day-to-day responsibilities and goals.

Learn more: What Is Global Payroll?

4. Improve talent retention with competitive benefits

Ongoing recruiting and onboarding costs that result from high turnover are hefty. One of the most critical factors that HR teams overlook when trying to improve retention rates is their global employee benefits packages.

By offering competitive, locally-tailored employee benefits packages, you show talent that you care for their well-being and drastically reduce employee turnover.

To truly move the needle, a global employee benefits package should go beyond statutory benefits and include things like additional healthcare coverage, wellness programs, employee assistance programs, or discounts on goods and services.

Get the guide: How to Retain Talent With Global Employee Benefits

Each of the above strategies can drastically reduce employee costs. However, employers who perform these calculations and implement these strategies may face financial and legal trouble if they are unsure of the compliance risks.

The risks of inaccurate employee cost payments

Accurately calculating employee cost payments is necessary to make sound financial decisions, no matter your company size or industry. Employers who go it alone or work with a dishonest partner risk hefty noncompliance penalties and potential overpayments.

Noncompliance

Providing inaccurate contributions for costs related to statutory employee benefits lead to hefty fines, legal fees, lost business opportunities, and reputational damage. The risk of noncompliance is even greater for companies with a distributed workforce who must navigate complex labor laws in multiple countries.

The best way to eliminate compliance risks is to partner with an EOR. However, it is essential to choose a reliable EOR partner who accurately calculates employer burden and doesn’t mark up costs for profit.

Overpayments

Trust is fundamental to your relationship with an EOR. As you expand to a new market, an EOR is there for you along the way, providing quotes for costs like employer burden and local Value-Added Tax (VAT). Employers who choose to work with an EOR must ensure their EOR partner provides accurate quotes.

Some EORs even inflate employer burden calculations and VAT quotes for profit, which underscores the need to take your time finding an EOR partner that is diligent and honest.

Hire confidently and economically with Velocity Global

Calculating true employee cost is overwhelming, especially if you operate in multiple foreign markets. By partnering with a vetted EOR like Velocity Global, you eliminate the guesswork and risks associated with these calculations.

Velocity Global provides transparent and accurate burden pricing for global employers at 99.63% accuracy. Our in-house and external auditing teams follow a rigorous process for collecting, auditing, updating, and maintaining burden calculations even as country conditions change.

Our Global Employer of Record (EOR) solution handles onboarding, payroll, benefits, compliance, and HR support so that you can focus on attracting top talent worldwide.

By partnering with Velocity Global, you can build remote teams quickly and cost-effectively in more than 185 countries.

Contact us today to learn how to compliantly hire and pay your global workforce while ensuring accurate payroll calculations.

 

Disclaimer: The intent of this document is solely to provide general and preliminary information for private use. Do not rely on it as an alternative to legal, financial, taxation, or accountancy advice from an appropriately qualified professional. © 2024 Velocity Global, LLC. All rights reserved.

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