There Is No Right Payroll Percentage. The Census Says It Runs From 6% to 40%.

The rule of thumb everyone quotes is 15-30% of revenue. Federal data on 6.4 million small firms puts the real spread at more than six times that width — and your industry picks your number before you make a single decision.

The rule of thumb is not wrong. It is just not about you.

Ask what percentage of revenue should go to payroll and you will be told 15 to 30 percent, usually with confidence and never with a source. It is the kind of number that survives because it sounds reasonable and nobody checks it. So I checked it.

The Census Bureau’s Statistics of U.S. Businesses reports annual payroll and receipts for every industry sector, broken out by firm size. For 2022 — the most recent year in which both figures appear on the same row for the same firms — the 6,374,594 US firms with fewer than 500 employees booked $3.47 trillion in payroll against $17.78 trillion in receipts. That is 19.5%, comfortably inside the famous range. Which is exactly the problem: the average is right and useless at the same time.

Look at the two ends. A home-health agency at 39.7% and a parts distributor at 6.3% are both entirely normal businesses run by entirely competent people. The agency sells labour; payroll is the product, and there is no version of that business where wages are a small line. The distributor sells inventory; its money left the building as purchase orders long before anyone thought about headcount. Neither number is a verdict on management. They are descriptions of what the business actually does.

A payroll ratio is not a report card. It is a fingerprint of your cost structure — and you inherited most of it the day you picked what to sell.

The finding I did not expect: small firms spend more, not less

The assumption is that small operations run lean and big companies carry the bloat. The data says the opposite, and not by a little. In 14 of the 20 sectors, firms under 500 employees spend a higher share of revenue on payroll than the sector does as a whole. The widest gap is finance and insurance: 25.0% for small firms against 14.7% across all sizes — more than ten points.

This is scale, not slack. A twelve-person insurance agency needs a compliance function, a licensed principal and somebody who understands the carrier contracts. So does a twelve-thousand-person insurer — it just spreads those same roles across a thousand times the revenue. Every small business carries a floor of jobs that do not shrink when the business does. Below a certain size that floor is your payroll ratio, and no amount of discipline moves it.

Which reframes the benchmark question entirely. If you are comparing yourself to an industry average that includes companies a hundred times your size, you are not measuring your efficiency. You are measuring your smallness, and concluding you are bad at something you have not yet had the chance to be good at.

The number is also low, because it leaves out what you actually pay

Here is the part that catches owners who do everything else right. Census “annual payroll” is wages and salaries only. It does not include your share of Social Security and Medicare, unemployment insurance, workers’ compensation, health premiums, retirement match or paid leave. None of it.

The Bureau of Labor Statistics measures that gap directly. At establishments with 1 to 49 workers, total compensation runs $37.36 an hour against wages of $27.68 — a multiplier of about 1.35x. Apply it and a business sitting exactly on the national small-firm average is not spending 19.5% of revenue on its people. It is spending closer to 26%.

Six and a half points of revenue is not a rounding error. On a business doing $2 million it is $130,000 a year — the difference between a comfortable margin and wondering why the forecast keeps missing. If you have been benchmarking against a wages-only figure using your own fully-loaded costs, you have been failing a test you were never actually taking.

What to do with this on Monday

Three things, in order. First, find your own sector’s number in the chart above and throw away the 15-30% rule — if you are in health care or professional services, that rule has been telling you that you are in trouble when you are merely normal. If you are in wholesale or retail, it has been telling you that you have room you do not have.

Second, decide which measure you are tracking and stick to it. Wages-only against the Census figure, or fully-loaded against a fully-loaded target. Mixing them is how a business talks itself into a hire it cannot afford — or out of one it can.

Third, and this is the one that matters: watch your own trend, not the industry’s. The useful question is never “is 28% too high?” It is “why was it 24% last year?” A ratio moving in the wrong direction while revenue is flat tells you something real about your business. A ratio that differs from a national average tells you something real about your NAICS code, which you already knew.

I have watched owners tear a business apart chasing a benchmark that was never built for them — cutting the people who made the thing work in order to hit a number some article printed. The data does not support the benchmark. It supports knowing your own numbers well enough that nobody else’s can rattle you.

Published by The Lonely Entrepreneur — the community and coaching platform for entrepreneurs who are building alone. lonelyentrepreneur.com

This article is for educational purposes and is not a substitute for professional financial or legal advice.