What is a Professional Employer Organization (PEO)?

A Professional Employer Organization (PEO) is a company that co-employs your existing staff, sharing HR responsibilities and liabilities with you. You maintain control over day-to-day operations and management. The PEO handles payroll, benefits, workers' compensation, compliance, and HR administration.

The key word is "co-employ." Unlike an Employer of Record (EOR), which becomes the sole legal employer, a PEO enters into a co-employment relationship where you're both employers. You manage the work; the PEO manages the HR infrastructure.

PEOs are primarily used by small to mid-sized businesses (10-500 employees) that want enterprise-level HR capabilities without building an internal HR department. They're common in the U.S. and less common internationally.

How co-employment actually works

When you partner with a PEO, your employees become co-employed. They work for your company but are also employed by the PEO for tax and insurance purposes. This arrangement allows the PEO to pool employees from multiple client companies, creating a larger risk pool for benefits and insurance negotiations.

Here's the practical reality. You hire an employee. The PEO becomes the employer of record for tax purposes, meaning they file payroll taxes under their tax ID. They process payroll calculations, withhold taxes, and remit payments to tax authorities. They provide benefits (health insurance, 401(k), dental, vision, etc.) through their master policies negotiated at scale. They provide workers' compensation insurance and handle claims management.

You maintain control over hiring decisions, firing decisions, compensation amounts, job duties, and day-to-day management. The employee reports to you, works on your projects, follows your direction, and integrates into your team. The PEO handles the administrative and compliance side of the employment relationship.

What PEOs actually provide

PEOs offer a comprehensive suite of HR services. Payroll processing is the foundation—they handle payroll calculations, tax withholding, direct deposits, and payroll tax filing with federal and state authorities. Benefits administration is a major component—they provide health insurance, dental, vision, 401(k), FSA/HSA, and other employee benefits, often at better rates than small businesses can negotiate independently because of their large risk pool.

Workers' compensation insurance is critical. The PEO provides coverage, manages claims, handles safety compliance, and conducts workplace safety audits. This is often cheaper than buying workers' comp independently because the PEO's larger risk pool negotiates better rates with insurers.

Compliance support ensures your business stays current with employment law—federal, state, and local. They handle unemployment claims, maintain required workplace posters and notices, ensure payroll tax compliance, and advise on employment law changes.

HR support includes developing employee handbooks, creating HR policies, providing performance management tools, and offering access to HR advisors who answer questions about employment issues. Some PEOs also offer recruiting support, employee onboarding tools, time and attendance tracking, learning management systems, and employee engagement tools. The exact services vary by PEO and pricing tier.

PEO vs EOR vs contractor management

These three models serve different workforce types and situations:

PEO (Professional Employer Organization) serves existing employees where you already have a legal entity. You want better benefits, HR support, and compliance help without building an internal HR team. Common in the U.S. for small to mid-sized businesses. Typical cost is $40-200 per employee per month.

EOR (Employer of Record) serves employees you're hiring in countries where you have no legal entity. The EOR becomes the legal employer, handles local compliance, and manages payroll and benefits. Used for international expansion without setting up subsidiaries. Typical cost is $49-99 per employee per month.

Contractor management serves independent contractors who remain self-employed. You organize contracts, track milestones, manage invoices, and coordinate payments. No employment infrastructure required. Typical cost is $99 per month for up to 25 contractors.

Understanding PEO pricing

PEO pricing varies widely based on company size, services included, and benefits packages chosen. Most PEOs use one of two pricing models.

Per-employee-per-month (PEPM) charges a flat monthly fee per employee, typically $40-200 per employee per month. A company with 10 employees might pay $400-2,000 per month. This model is predictable and easier to budget because you know the cost upfront.

Percentage of payroll charges 2-12% of your total payroll. A company with $500,000 annual payroll might pay $10,000-60,000 per year. This model scales with payroll but can be expensive for high-wage employees because the percentage applies to larger payrolls.

Beyond PEO fees, you pay employee salaries, benefits premiums, and workers' compensation insurance. However, the PEO's scale allows them to negotiate better rates on benefits and workers' compensation, which often offsets some of the PEO fees compared to buying these separately.

Benefits of using a PEO

The primary benefit is access to enterprise-level benefits at small business scale. PEOs pool employees from hundreds of client companies, creating a large risk pool. This allows them to negotiate significantly better rates on health insurance, 401(k) plans, workers' compensation, and other benefits than a 10-person company could negotiate independently.

Compliance support is another major benefit. Employment law is complex, constantly changing, and varies by jurisdiction. PEOs have dedicated compliance teams that stay current with federal, state, and local regulations. They handle payroll tax filing, unemployment claims, required reporting, and keep you informed of legal changes affecting your business.

Time savings are substantial. Payroll processing, benefits administration, workers' compensation management, and HR compliance are time-consuming. By outsourcing these functions to a PEO, business owners and managers can focus on core operations, strategy, and growth instead of HR administration.

Risk mitigation is valuable. PEOs share employment liability, particularly around payroll taxes, workers' compensation, and compliance issues. If there's a payroll tax problem or workers' compensation claim, the PEO is involved in handling it.

Real drawbacks to consider

Cost is the primary drawback. PEOs aren't cheap. For a 10-person company, expect $400-2,000 per month in PEO fees on top of salaries and benefits. For some businesses, this is worthwhile for the time savings and better benefits. For others, the cost is too high relative to the benefit.

Loss of control is a real consideration. While you maintain day-to-day management, the PEO controls HR policies, benefits offerings, and payroll processes. You can't customize as much as you could with an internal HR team. If you need very specific benefits or policies, a PEO may not accommodate them.

Switching costs are significant. Once you're with a PEO, moving to a different PEO or bringing HR in-house is disruptive. You have to migrate payroll systems, benefits enrollment, and employee records. Employees may experience benefits gaps or confusion during the transition. It's also administratively complex and time-consuming.

Service quality varies significantly. Some PEOs provide excellent support, responsive communication, and modern technology. Others are bureaucratic, slow to respond, and have outdated systems. Due diligence when selecting a PEO is critical because you're locked in for at least a year.

Dependency risk exists. You become dependent on the PEO for core HR functions. If the PEO goes out of business (rare but possible) or provides poor service, your business is affected. You have limited ability to quickly replace them.

When a PEO actually makes sense

PEOs are best for small to mid-sized businesses (10-500 employees) with W-2 employees who want enterprise-level HR capabilities without building an internal HR department. Common scenarios where a PEO makes sense include: you're growing fast and need HR infrastructure quickly without hiring HR staff; you want better employee benefits to attract and retain talent; you're spending too much time on payroll and compliance work; you're concerned about employment law compliance and want expert support; you want to reduce workers' compensation costs through better negotiating power.

PEOs are less useful for very small businesses (under 5 employees) where the cost per employee is too high for the value provided, or for businesses that primarily work with contractors rather than employees.

PEOs and contractors: Different tools for different needs

PEOs are designed for W-2 employees, not independent contractors. If you're working with contractors, a PEO doesn't help you. Contractors aren't on payroll, don't receive employee benefits, and aren't covered by workers' compensation because they're self-employed.

For contractor management, you need different tools. Contractor management software helps you organize contracts, track milestones and deliverables, manage invoices, and coordinate payments. It's specifically designed for independent contractor relationships, not employment.

Many businesses use both: a PEO for their W-2 employees and contractor management software for their independent contractors. The models serve different workforce types and shouldn't be mixed.

Frequently asked questions

Do I lose control of my employees with a PEO?

No. You maintain control over hiring decisions, firing decisions, compensation amounts, job duties, performance management, and day-to-day management. The PEO handles HR administration—payroll, benefits, compliance—not business operations or management decisions.

Can I use a PEO if I have contractors?

PEOs are for W-2 employees, not contractors. If you have both employees and contractors, you can use a PEO for employees and contractor management software for contractors. These are separate systems serving different workforce types.

How long does PEO setup take?

Typically 2-4 weeks from signing to first payroll. The PEO needs to onboard your employees, migrate payroll data, set up benefits enrollment, and get workers' compensation coverage in place. The timeline depends on your company size and how many employees need to migrate.

Can I switch PEOs if I'm not happy?

Yes, but it's disruptive and costs money. You'll need to migrate payroll data, benefits enrollment, and employee records to a new PEO. Your employees may experience gaps in benefits or changes to their benefits during the transition. Communication with employees is critical. Most PEO contracts require notice before you can switch, typically 30-90 days.

What's the difference between a PEO and outsourced HR?

A PEO is a specific co-employment relationship where the PEO becomes the employer of record. Outsourced HR is a broader category where a company provides HR services (recruiting, onboarding, training, etc.) without being the employer of record. They're related but different. PEOs handle more of the employment relationship.

Is a PEO right for startups?

Generally not. Most PEOs have minimum employee requirements (usually 5-10 employees). If you're a 2-3 person startup, a PEO doesn't make sense—the cost per employee is too high and you don't need all the services. Wait until you have 10+ employees before considering a PEO.

Making the decision

Ask yourself these questions:

Do you have W-2 employees or independent contractors? (PEOs are for W-2 employees.)

How many employees do you have? (PEOs make sense at 10+ employees; under 5, the cost per employee is usually too high.)

How much time are you spending on HR administration? (More time suggests a PEO might help.)

Do you need better benefits to attract talent? (PEOs negotiate better rates due to scale.)

What's your budget for HR outsourcing? (PEOs cost $400-2,000+ per month depending on size.)

Are you comfortable sharing some HR control? (PEOs reduce your control over HR policies and processes.)

Based on your answers, a PEO might be a good fit or you might be better served with internal HR or outsourced HR services.

The bottom line

PEOs are valuable for small to mid-sized businesses with W-2 employees who want enterprise-level HR capabilities without building an internal HR department. They provide better benefits, compliance support, and time savings in exchange for monthly fees and some loss of HR control.

PEOs are not for contractors. If you're working with independent contractors, you need contractor management software designed for that relationship, not a PEO designed for employees.

Evaluate your workforce type, budget, and needs. If you have employees and want to outsource HR, a PEO might make sense. If you're working with contractors, focus on contractor management tools. Know your workforce type and choose the right solution.