Academic journal article Economic Perspectives

Professional Employer Organizations: What Are They, Who Uses Them, and Why Should We Care?

Academic journal article Economic Perspectives

Professional Employer Organizations: What Are They, Who Uses Them, and Why Should We Care?

Article excerpt

Introduction and summary

A growing number of U.S. workers are counted as employees of firms that they do not actually work for. Some of these workers are from temporary help services (THS) agencies and some are leased employees, who are on the payrolls of professional employer organizations (PEOs) but work for PEOs' client firms. Several studies have looked at firms' use of THS, but few have examined the use of PEO services. In this article, we use data from the U.S. Census Bureau to shed some light on PEOs--how they operate, what types of companies employ them, and why.

PEOs provide various services related to human resources (HR) management, such as payroll processing, benefit management, and regulation compliance. Unlike consultant firms that only provide recommendations on these functions, PEOs operate in a co-employment relationship with their clients, by including the clients' workers on their own payrolls. In such a relationship, PEOs become employers of record for tax and insurance purposes. PEOs exercise some decision-making in HR management; at the same time, they share legal responsibilities as co-employers. By pooling the workers of its clients on its payroll, a PEO gains economies of scale in performing its required tasks.

The workers whose payrolls are moved to PEOs are often referred to as "leased employees" because, on paper, they work for the PEO and are leased back to the client firm. Since leased employees are not accounted for on clients' payrolls, the payroll-based labor statistics underestimate labor used by the industries of PEO client firms. In the 2002 Economic Census's subject series on Administrative and Support and Waste Management and Remediation Services, (1) the PEO industry consisted of about 5,000 establishments. It employed 1.7 million leased employees. The PEO industry achieved rapid growth through the 1990s, with a growth rate of 386 percent from 1992 to 2002, subtracting an increasing number of workers from the payroll records of other industries. (2)

In this article, we first review the history and current nature of PEO services. Next, we use publicly available data to show that the distribution of the use of PEO services is not uniform across industries or geographical areas. We then use confidential microdata from the U.S. Census Bureau's 2002 Census of Manufactures to examine how characteristics other than location and industry may influence companies' use of PEO services and, therefore, why certain types of companies are more likely to use PEO services than others. This also sheds some light on the issues researchers face in interpreting payroll-based labor statistics.

Dey, Houseman, and Polivka (2006) provide a review of the issues related to payroll-based labor statistics. They also assess the effect of firms' use of employment services as a whole, including PEO services and THS, focusing on the manufacturing sector. Between 1989 and 2000, employment in manufacturing reportedly fell by 4.1 percent. Dey, Houseman, and Polivka (2006) show, however, that manufacturing employment would have actually increased by 1.4 percent if employment services workers had been included. (3) They also estimate that the use of these employment services added 0.5 percentage points to the annual growth rate of labor productivity as measured by output per worker in the manufacturing sector between 1989 and 2000, equaling approximately 14 percent of the overall growth. (4) Houseman (2006) also shows that the multifactor productivity measure for manufacturing would also overestimate productivity growth as the data do not allow us to fully capture employment services input to manufacturing.

The existing literature (Houseman, 2006; Estavao and Lach, 1999; and Segal and Sullivan, 1997) relies mostly on data on firms' use of THS industries, partly reflecting data availability. We complement this literature here by examining firms' use of PEOs.

History and activities of PEOs

PEOs started out in the early 1980s, conducting payroll processing for client firms. …

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