The co-employment relationship is the foundation of how PEOs work—but it’s also the most misunderstood aspect of PEO partnerships. Many business owners worry that co-employment means giving up control of their workforce. This is a misconception.
Understanding co-employment clarifies how PEOs actually work and why the arrangement benefits everyone involved.
Co-Employment Defined
Co-employment is a legal relationship where two entities share employer responsibilities for the same employees:
- The worksite employer (you): Maintains day-to-day control, management, and operational authority over employees
- The PEO: Assumes administrative employer responsibilities for tax, insurance, and compliance purposes
Think of it as a division of employer responsibilities rather than a transfer of control.
What You Retain Control Over
Under co-employment, you maintain complete control over:
Hiring and Firing: You decide who to hire, interview candidates, make offers, and terminate employees when necessary. The PEO has no say in these decisions.
Job Assignments: You direct what work employees perform, their schedules, projects, and daily responsibilities.
Compensation: You determine salaries, raises, bonuses, and commission structures. The PEO processes payments but doesn’t set amounts.
Performance Management: You conduct performance reviews, provide feedback, create improvement plans, and manage employee development.
Company Culture: You define your company’s values, culture, mission, and work environment. Employees work for YOUR company, not the PEO.
Business Operations: You run your business entirely as you see fit. The PEO has no operational authority or input.
Workplace Policies: While PEOs provide template policies and compliance guidance, you determine final policies and how they’re implemented.
What the PEO Handles
Under co-employment, the PEO manages:
Payroll Processing: Calculating paychecks, processing direct deposits, withholding taxes, and issuing pay stubs.
Payroll Tax Administration: Filing payroll tax returns, making tax payments, managing unemployment insurance, and handling tax compliance.
Benefits Administration: Enrolling employees in benefits, processing changes, coordinating with carriers, and managing open enrollment.
Workers’ Compensation: Providing coverage, managing claims, coordinating medical treatment, and handling return-to-work programs.
HR Compliance: Ensuring your policies and practices comply with employment laws, providing required documentation, and staying current with regulatory changes.
HR Support: Answering employee questions about benefits, providing guidance on employment issues, and offering expertise when needed.
Employee Documentation: Managing I-9s, W-4s, new hire reporting, and other required employment paperwork.
Risk Management: Helping implement safety programs, conduct training, and manage employment-related risks.
The Legal Structure
From a legal perspective:
For Tax Purposes: The PEO is the employer of record. Employees receive W-2s from the PEO. The PEO is responsible for payroll tax compliance.
For Insurance Purposes: Employees are covered under the PEO’s workers’ compensation and benefits policies. This enables access to better rates through the PEO’s master policies.
For Operational Purposes: You’re the employer. Employees work for you, report to you, and are loyal to your company.
For Legal Purposes: Liability is shared. The PEO assumes certain employment-related liabilities (particularly tax and insurance), but you retain responsibility for operational decisions and workplace conduct.
How Employees Experience Co-Employment
From the employee perspective:
Who do they work for? You. Employees come to your workplace (or work remotely for your company), perform work for your business, and identify as your employees.
Who manages them? You. Employees report to your managers, receive direction from you, and are evaluated by your leadership.
Where does their paycheck come from? The PEO processes payroll, so checks may show the PEO’s name. However, it’s clear they work for your company.
Who provides benefits? Benefits are administered through the PEO, but employees understand these are their job benefits.
What changes? Very little from the employee experience standpoint. They may interact with the PEO for benefits questions or HR issues, but day-to-day work is unchanged.
Common Misconceptions
“The PEO owns my employees.” False. You maintain complete control. Employees work for you, not the PEO.
“Employees will be confused about who employs them.” With proper communication, employees understand the PEO handles administrative functions while they work for you.
“I’m giving up control of my business.” False. You retain all operational control. The PEO simply handles administrative HR functions.
“Co-employment is risky or unusual.” False. Over 4 million Americans work under PEO co-employment relationships. It’s a well-established, legally recognized employment model.
“The PEO can tell me how to run my business.” False. PEOs provide guidance on HR compliance and best practices, but you make all final decisions about operations.
Benefits of the Co-Employment Structure
For You (The Business Owner):
- Access to Fortune 500-level benefits at small business scale
- Shared employment liability reduces your risk exposure
- Professional HR support without hiring full-time staff
- Simplified administration for complex HR functions
- Better workers’ comp rates through pooled coverage
For Employees:
- Better benefits than company could provide independently
- Professional HR support for questions and issues
- Improved workplace policies and compliance
- Access to additional resources and training
For the PEO:
- Pooling employees from multiple clients creates scale for better insurance rates
- Co-employment structure enables tax and insurance advantages
- Sharing liability is compensated by fees and appropriate service
Legal Protections
The co-employment structure is legally sound:
IRS Recognition: The IRS explicitly recognizes CPEOs (Certified Professional Employer Organizations) and their role as employers for tax purposes.
State Laws: All 50 states have laws recognizing and regulating PEO arrangements.
Case Law: Decades of legal precedent support the co-employment model and clarify respective responsibilities.
Regulatory Frameworks: DOL, IRS, and state agencies understand and accommodate co-employment structures.
Who’s Responsible for What?
Clear Responsibility Matrix:
| Function | You (Worksite Employer) | PEO |
| Hiring/Firing | ✓ | |
| Day-to-day management | ✓ | |
| Compensation decisions | ✓ | |
| Work assignments | ✓ | |
| Performance reviews | ✓ | |
| Payroll processing | ✓ | |
| Payroll tax compliance | ✓ | |
| Benefits administration | ✓ | |
| Workers’ comp | ✓ | |
| HR compliance guidance | ✓ | |
| Workplace conduct | ✓ | |
| Company culture | ✓ |
When Co-Employment Causes Confusion
Potential confusion areas:
Employee Identification: Some employees may be confused initially about whose company they work for. Clear communication during onboarding resolves this.
Paperwork: W-2s and some documents show the PEO’s name, which can surprise employees. Explain this during PEO transition.
Benefits Questions: Employees may not know whether to contact you or the PEO for benefits questions. Establish clear communication channels.
Third-Party Verification: When employees need employment verification (for loans, apartments), they may need to provide both your company name and PEO details.
Communicating Co-Employment to Employees
When transitioning to a PEO:
What to say: “We’re partnering with [PEO name] to improve your benefits and streamline HR administration. You’ll still work for [your company] doing the same job reporting to the same people. [PEO] will handle payroll, benefits, and HR paperwork. You’ll have better health insurance and professional support for HR questions.”
What to emphasize:
- Nothing changes about their job, manager, or work
- Benefits are improving
- Professional support is now available for HR questions
- This is a positive change for everyone
What to avoid:
- Confusing technical explanations of co-employment
- Making it sound complicated or concerning
- Suggesting they now work for two companies
- Overemphasizing the legal structure
Questions Employees Might Ask
“Who’s my employer now?” “You work for [your company]. [PEO] handles administrative functions like payroll and benefits behind the scenes.”
“Will my benefits change?” “Yes—they’re improving! You’ll have access to better health insurance options at better rates.”
“Who do I ask about [X]?” Create a simple guide: Operations questions → your management; Benefits/HR questions → PEO.
“Is my job safe?” “Absolutely. We’re improving how we handle HR administration. Your job and responsibilities are unchanged.”
The Bottom Line
Co-employment is simply a structure that allows PEOs to provide better benefits, share certain liabilities, and handle HR administration while you maintain complete operational control of your business and employees.
It’s not about giving up control—it’s about partnering with experts to handle complex administrative functions while you focus on running your business.
Have questions about how co-employment would work for your specific situation? Contact PEO Consulting Partnersfor a free consultation. We’ll explain exactly how the relationship would work and address any concerns—at no cost to you.