When can you afford to hire your first employee? When you have three months of fully burdened wages in cash and enough revenue stability to cover the payroll even if work slows. Most contractors who call our office wait until they are already drowning in work, which is about six weeks too late. If you are turning down jobs because you lack bodies, you can probably afford to hire. If you are thinking about hiring because you read a business book, you probably cannot.

The calculation is not complicated, but it is specific. You need to know the fully burdened cost, the cash float, and the revenue stability. I will walk through each piece in order.

What does a W-2 employee cost beyond the base wage?

You should plan on at least 20% to 30% above the gross wage for taxes and required insurance. The base wage is only the starting point.

You also pay the employer share of Social Security and Medicare tax under IRC §3111. The Social Security portion stops for 2026 once the employee hits $184,500 in wages. Medicare continues with no cap.

You owe federal unemployment tax, plus state unemployment insurance that varies by state and your experience rating.

Workers compensation is required in nearly every state and is priced by class code. A carpenter costs more to cover than a bookkeeper.

All in, the extra load often runs 20% to 30% on top of gross wage in the trades. Our true cost breakdown walks through a full example, and our W-2 vs 1099 tax comparison shows the difference from the worker's side.

Should I hire a W-2 employee or use a 1099 contractor?

If the person uses your tools, follows your schedule, and does work central to your business, the IRS will treat them as an employee regardless of what you call them.

The 1099-NEC filing threshold for 2026 is $2,000 per contractor under OBBBA §70433, amending IRC §6041. That is a reporting rule, not a classification rule.

Misclassification means you can be on the hook for back withholding, the employee's share of FICA, and penalties. The rules are not ambiguous if you look at the facts honestly.

We compare the two structures in our 1099 vs W-2 guide and our contractor hiring guide.

How much cash do I need before that first paycheck?

I tell clients to hold three months of fully burdened wages in cash before they hire.

At $20 an hour for 40 hours a week, 52 weeks a year, gross pay is $41,600 annually. Divided by 12, that is roughly $3,466 a month before payroll taxes and insurance.

Add 25 percent for employer taxes and workers comp, and the fully burdened monthly cost lands closer to $4,300. That is the number you multiply by three for your cash buffer.

You are floating payroll before the employee's work turns into collected revenue. A single callback or a late-paying customer can swallow a month's profit fast. If you do not have the buffer, the hire becomes a crisis instead of a growth step.

What tax and payroll obligations start immediately?

Before the first paycheck, you need a federal Employer Identification Number if you do not already have one. The employee must complete a Form W-4. (See IRS Hiring Employees.)

• Begin withholding federal income tax and the employee's share of FICA.
• Pay your employer matching share of FICA.
• Deposit withheld taxes and your match on the IRS schedule.
• File Form W-2 with the Social Security Administration each January. (See SSA Employer Portal.)
• Maintain payroll records for at least four years.

Most states also require unemployment insurance registration and workers comp coverage before the first day on the job. Our workers comp cost guide covers the contractor-specific rules.

If you are an S-Corp already paying yourself a salary, adding an employee does not change your reasonable compensation requirement. It does mean you need a real payroll system instead of a once-a-year adjustment. Our pay-yourself guide explains how to keep that clean.

What happens if I hire someone and revenue drops?

You are still on the hook for payroll taxes, workers comp premiums, and any accrued vacation or sick pay required by state law.

Firing quickly is not free. An unemployment claim can raise your state unemployment rate for years. Better to start part-time or with a 90-day probationary period if your pipeline is thin.

This is why the three-month buffer is not conservative. It is the minimum. If you are not setting aside tax reserves already, fix that before you add payroll.

What is the first step if the numbers work?

Open a separate payroll checking account before you post the job. Run a sample payroll so you know the exact debit amount before the first live check.

Then set up job costing so you can track whether that employee's time actually produces profit on each job. If you cannot trace the employee's hours to revenue, you are flying blind.

Common questions about hiring your first employee

Ready to run the numbers on your first hire? We help contractors set up payroll that stays compliant without bleeding cash. Book a meeting with our team here.