Cost of small business employment

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Oct 30, 2014

Today, the Centre for Economics and Business Research (CEBR) and the FSB launch a brand new index which estimates the employment-related costs facing the typical small business in the UK.

The index is built using a range of official datasets including the Office for National Statistics’ Annual Survey of Hours and Earnings (ASHE) and other secondary data sources in order to gain a fuller understanding of the costs small businesses typically face when employing people. It also highlights the impact of government policies, including tax and regulatory measures, on the overall costs of running a small business.

 

Headline data

The index is built using provisional wage data from ASHE for 2013 (the latest available). It finds that, for a typical small business with 7 workers, including the owner manager:

 

  • Employment costs averaged £189,600 for the typical small business in 2013 – of which 15.1% were non-wage costs. Total employment costs were highest in the health and education services sector (£280,900) and lowest in the accommodation and food services sector (£117,400).
  • Class 1 Employer National insurance contributions (NICs) accounted for 12.7% of all employment costs for the typical small business – the most significant cost area after wages
  • Administrative costs accounted for a sizeable share of non-wage costs. Total payroll processing is estimated to have cost a typical small firm £1,200 or 4.1% of non-wage costs, while regular administration totalled £2,300 or 8.1% of non-wage costs.
  • Maternity leave typically accounted for 0.1% of non-wage costs in 2013, while employer pension contributions represented 1.9% of non-wage costs. The latter will increase when Automatic enrolment begins for micro businesses.
  • Total employment costs increase in line with the size of the business. However, average employment costs (i.e. employment costs per worker) fall as the business grows. This is due to non-scalable costs such as workplace insurance and most regular administrative tasks being split between a greater number of workers (see chart 1 below).
  • As a business increases in size, a greater proportion of total employment costs are devoted towards productive assets such as the wages of shop floor workers, instead of overheads, meaning that firms may become more efficient with size.  Put another way, the smaller the firm, the higher the share of non-wage costs relative to total employment costs (see chart 2 below).

 


Scenarios

The index can also be used to model the impact of changes to Government policy on the typical small business. Three scenarios are presented here for illustrative purposes

 

Scenario 1: Cutting Class 1 Employer’s National Insurance Contributions

Cutting Class 1 Employers National Insurance contributions (or secondary NICs) has a positive effect on employment costs.  According to the index, the Government’s ‘Employment Allowance’ which cuts the first

 

 

£2,000 of employer’s NICs reduces the non-wage costs of our typical small business with 7 workers In 2013 from 15.1% to 14.2%[1].  Total employment costs fall from £189,600 to £187,600, while annual employer National Insurance Contributions decrease from £15,900 to £13,900.

 

A more ambitious scenario would be to reduce the headline rate of Class 1 NICS from 13.8% for qualifying earnings by 2 percentage points (to 11.8%). This reduces total employment costs from £189,600 to £187,400.

 

Scenario 2: Taking on the first employee

On average, a business taking on its first employee is estimated to have total employment costs of £71,000, of which £34,000 is the owner’s salary. A large share of the remainder is the employee’s salary and NICs. However, a non-trivial contribution is also made from other non-wage costs. For instance, employer’s liability insurance premia can be up to an estimated £1,500 a year depending on industry.

 

In addition, the opportunity cost facing the owner to comply with employment regulations and carry out related administration is higher the smaller the business, and highest for the business with 1 employee. Compliance with health and safety rules, conducting payroll processing, searching for a replacement  if the worker leaves, goes on maternity/paternity leave, or is sick – all must be undertaken by the owner

 

Scenario 3: Increasing the National Minimum Wage

An increase in the National Minimum Wage will have a minimal effect on our typical small businesses, as the model assumes that most employees will be earning more than the NMW. However, we are able to model the impact of a NMW rise on a small business with one proprietor and six staff earning the minimum wage. As an example, a small retailer with this earnings structure would face annual total employment costs of £107,200 in 2013 (based on a £6.31 per hour NMW in 2013/14). Of this £95,300 would have been gross wage costs, while a further £5,000 would be accounted for by employer NICs.

If the minimum wage were to increase from £6.31 to £8 an hour, this increases the gross wage costs of our modelled small retailer that only employs minimum wage staff by 17.9% to £112,400 a year, while total employment costs rise to £126,600 a year.

If the minimum wage were to increase to the current UK Living Wage (£7.65 per hour), total gross wage costs for our small retail proprietor employing only minimum wage workers would rise to £108,900, a 14.3% increase. In addition, total employment costs would increase to £122,600, a 14.4% increase compared to total costs under 2013/14 minimum wage levels.

 

The full report can be found at the link below.