Small business payroll: steps, compliance and software

Published Thursday 16 April 2026

Table of contents

• What does payroll mean for small business?
• How to do payroll for small business step-by-step
• What are payroll deductions?
• Common payroll mistakes to avoid
• What's involved in payroll compliance?
• Reporting to the ATO
• Payroll options for small business
• How to choose payroll software for your business
• How much does payroll cost for small businesses?
• Simplify payroll with the right tools
• FAQs on small business payroll

Key takeaways

• Follow a clear six-step payroll process each pay period: collect employee details, calculate gross pay, apply deductions, transfer net pay, report to the Australian Taxation Office (ATO) through Single Touch Payroll (STP), and store all records for at least seven years.
• Avoid common payroll mistakes such as missing superannuation deadlines, using incorrect tax rates, and misclassifying workers as contractors, as these errors can lead to ATO penalties and employee disputes.
• Use STP-enabled payroll software rather than spreadsheets, as spreadsheets do not meet ATO reporting requirements and increase the risk of costly errors in tax withholding and leave tracking.
• Choose a payroll management option that matches your business size and complexity, whether that's payroll software, a payroll service provider, or an accountant, keeping in mind that software typically costs $10 to $50 per month plus a per-employee fee.

What does payroll mean for small business?

Payroll is the process of calculating employee wages, withholding taxes, and paying your team on time. For small businesses, it covers two main responsibilities: paying employees correctly and managing deductions for taxes and other obligations.

Your core payroll duties include:

• Accurate payments: Pay employees the right amount on time, following their contract and employment law.
• Proper deductions: Calculate and withhold taxes, superannuation, and other required deductions.

You must pay employees on time, calculate taxes correctly, and report to the government as required. Reporting through Single Touch Payroll (STP) is a mandatory obligation for all employers.

You can use Xero payroll software to simplify your payroll tasks and stay compliant.

How to do payroll for small business step-by-step

Running payroll means calculating pay, making deductions, and paying your employees each pay period. Here's how to do it in six steps.

1. Gather employee information: Collect each employee's Tax File Number (TFN), bank account details, and superannuation fund choice before processing their first pay.
2. Calculate gross pay: Work out what each employee has earned for the pay period. This could be based on their annual salary, hourly rate, or overtime hours.
3. Handle deductions: Subtract any required amounts from their gross pay. This includes Pay As You Go (PAYG) withholding tax and any other deductions they've agreed to.
4. Pay your employees: Transfer the final net pay amount to your employees' bank accounts. Make sure you pay your employees on time, every pay period.
5. Report to the ATO: Using Single Touch Payroll (STP) enabled software, you'll report your employees' pay, tax, and super information to the ATO on or before each payday, which the ATO confirms is a mandatory obligation for employers.
6. Keep accurate records: You're required to keep financial records, including all payroll records, for at least seven years. Using software makes this simple, as everything is stored securely for you.

What are payroll deductions?

Payroll deductions are amounts you withhold from employee wages before paying them. They fall into two categories: mandatory and voluntary.

Mandatory deductions include:

• Income tax withholding: PAYG tax based on employee earnings and tax file number declaration.
• Superannuation contributions: Currently 11.5% of ordinary time earnings (increasing to 12% of their ordinary time earnings from 1 July 2025).
• Child support payments: When required by the Child Support Agency.

Voluntary deductions include:

• Health insurance premiums: Additional cover requested by the employee.
• Extra superannuation contributions: Salary sacrifice arrangements.
• Charitable donations: Workplace giving programs.

Deductions must be processed in a specific order. Find out more about deduction priorities in the guide to hiring staff.

Common payroll mistakes to avoid

Payroll mistakes can lead to penalties, unhappy employees, and extra admin work. Here are the most common errors and how to prevent them.

• Missing super deadlines: Superannuation must be paid at least quarterly, as it is compulsory to pay super guarantee at least four times a year. Late payments attract the super guarantee charge, which includes interest and admin fees.
• Incorrect tax withholding: Using the wrong tax rates or ignoring tax file number declarations leads to ATO issues at tax time.
• Misclassifying workers: Treating employees as contractors, or vice versa, affects tax, super, and entitlements, and certain industries may need to report payments made via the taxable payments annual report (TPAR). Check the ATO's guidelines if you're unsure.
• Keeping poor records: Incomplete or missing records make it hard to prove compliance. Keep all payroll records for at least seven years.
• Forgetting leave accruals: Failing to track annual leave and sick leave accurately can result in underpayments and disputes.

Using payroll software helps you avoid these mistakes by automating calculations and keeping records in one place.

What's involved in payroll compliance?

Payroll compliance means meeting your legal obligations as an employer. It protects your business from penalties and ensures employees receive correct pay and entitlements.

To stay compliant, you need to:

• Pay correctly: Calculate the right amount and make proper deductions every pay period.
• Provide payslips: Give employees detailed payslips showing all calculations within one working day of payment.
• Lodge on time: File and pay taxes to the Australian Taxation Office (ATO) by the due date.
• Remit deductions: Send superannuation and other withholdings to the correct providers.
• Keep records: Store payroll records for at least seven years to meet ATO and ASIC requirements.

This guide covers deductions and reporting. For more on pay calculations, see how to pay employees.

Reporting to the ATO

ATO reporting requires you to report employee payments, tax withheld, and superannuation to the Australian Taxation Office each pay period. Single Touch Payroll (STP) is the system you use to submit this information.

Your reporting obligations include:

• Withhold tax: Deduct the correct PAYG amount from employee wages.
• Pay on time: Remit collected taxes to the ATO by the due date.
• File reports: Submit accurate records of all payments and deductions.

Single Touch Payroll requirements include:

• Report each payday: Submit your STP report on or before each pay run.
• Include all details: Report employee payments, tax withheld, and superannuation contributions.
• Use compliant software: Submit reports through accounting software, payroll software, or a registered agent.

Since early 2022, STP Phase 2 requires additional information such as income types and employment conditions.

Payroll options for small business

Payroll becomes more complex as your business grows and you hire different types of employees. The more variables you have, the more important it becomes to choose how you manage payroll.

Common complexity factors include:

• Employee types: Managing hourly, salaried, and commission-based staff.
• Variable payments: Calculating overtime, allowances, and expense reimbursements.
• Leave management: Tracking annual leave, sick leave, and other entitlements.
• Multi-state operations: Meeting different regulations across state boundaries.

Your payroll management options include:

• Pen and paper or spreadsheets: Suitable for very few employees, but spreadsheets often don't meet ATO requirements for STP reporting.
• Payroll apps: Calculate pay and deductions automatically, though you still need to make payments yourself.
• Payroll service providers: Handle everything from calculations to payments, or assist with specific tasks. Learn more about payroll service providers.
• Accountants and bookkeepers: Manage your payroll as part of their services. Find one in the Xero advisor directory.

How to choose payroll software for your business

Choosing payroll software means finding a solution that fits your business needs and keeps you compliant. Here's what to look for.

Key features to consider:

• STP compliance: The software must submit Single Touch Payroll reports to the ATO automatically.
• Award interpretation: If your employees are covered by modern awards, look for built-in award rates and conditions.
• Leave tracking: Automatic accrual and tracking of annual leave, sick leave, and other entitlements.
• Integrations: Connection to your accounting software, time tracking tools, and bank feeds.
• Scalability: Room to grow as you add more employees or complexity.
• Support: Access to help when you need it, especially during your first few pay runs.

Start by listing what your business needs now and what you might need in the next year or two. Most payroll software offers a free trial, so you can test the interface before committing.

How much does payroll cost for small businesses?

Payroll costs vary based on how you manage the process. Here's what to expect from each approach:

• Payroll software: Monthly fees typically start from $10 to $50, plus a per-employee charge.
• Outsourcing: Payroll services, accountants, or bookkeepers may charge $30 to $100 or more per employee each month.
• DIY with spreadsheets: No direct cost, but requires more time and increases the risk of errors that could lead to penalties.

The right choice depends on your business size, complexity, and how much time you can spend on admin.

Simplify payroll with the right tools

When you get payroll right, your team gets paid correctly and on time. Your business also stays compliant with ATO requirements.

The right tools automate calculations, track leave entitlements, and handle STP reporting. You spend less time on admin and more time running your business.

Ready to make payroll easier? Get one month free with Xero.

FAQs on small business payroll

Here are answers to common questions about small business payroll.

How much does a payroll system cost for a small business?

For detailed pricing information, see the 'How much does payroll cost for small businesses?' section above. Costs vary based on whether you choose software or outsourcing.

Do small businesses pay payroll tax?

Most small businesses don't pay payroll tax because it only applies when your total Australian wages exceed a threshold, which varies by state. In New South Wales, for example, the threshold is $1.2 million annually.

What is the best payroll solution for a small business?

The best solution depends on your needs. Payroll software suits most small businesses with straightforward requirements. For complex payroll involving multiple award rates or multi-state operations, a payroll service provider or accountant may be a better fit.

Is there free payroll software for small businesses?

Some payroll software offers free tiers or trials, but these often have limitations on employee numbers or features. Most small businesses find that paid software with STP compliance and support is worth the investment to avoid costly errors.

Can I do payroll with spreadsheets?

Spreadsheets can track basic calculations, but they don't meet ATO requirements for Single Touch Payroll reporting. You'll need STP-enabled software or a registered agent to submit your payroll information to the ATO each pay period.