Labor Cost Calculator

You’re going to need a few figures to calculate your labor cost. Luckily each calculation is straightforward and can be done easily with our calculator.  

Calculate Gross Pay

Gross pay = Pay rate x Gross hours

First, you need to know how many hours your employee works in a given period. To calculate their annual gross pay, multiply the average number of hours worked in a week by the number of weeks in a year. An employee working 20 hours works a total of 1,040 hours annually. If they make $12 an hour, their gross pay looks like this:

$12,480 gross pay = $12 hourly wage x 1,040 work hours

Estimate annual net hours worked

Net hours worked = Gross hours – Hours not worked

Few employees work 52 weeks a year, so you need to factor in time off. If that same employee takes two weeks off each year, at 20 hours a week they’ll have not worked 40 hours . Subtract the unworked hours from the gross hours calculated earlier and you’ll get net hours worked annually.

1,000 net hours = 1,040 gross hours – 40 hours not worked

Calculate additional annual labor costs

Additional annual costs = Taxes + Overtime + Insurance + Benefits + Training 

Now is the time to factor in everything else that counts as a labor cost. This will depend entirely on the specifics of your business. Be sure to double check with your bookkeeper or management team to ensure you don’t forget to add any additional costs. 

Calculate annual labor costs

Annual labor cost = Gross pay + Additional annual costs

Let’s say the above came out to $3,015 in annual additional costs. All you need to do now is add it to your gross pay to get the annual labor cost for your employee. 

$15,495 annual labor cost = $12,480 gross pay + $3,015 additional annual cost

You’ll need to calculate the annual labor cost for each employee and add those together to understand your total annual labor cost. 

Calculate actual hourly labor costs

Actual hourly labor cost = Annual labor cost / Net hours worked

The actual hourly rate of employees is an important metric to track. To calculate, divide the annual labor cost of your employee by the number of hours they actually worked. 

$15.50 actual hourly cost = $15,495 annual labor cost / 1,000 net hours

Calculate labor cost percentage

Labor cost percentage = Total labor cost / Total revenue

A final important metric is your labor cost percentage. To calculate it, simply divide your total labor cost by total revenue (eke total sales) in a given period. If your total labor cost is for the month of January is $51,650 and your monthly sales are $151,900, the calculation looks like this:

34% = $51,650 total monthly labor cost / $151,900 total monthly revenue

Most businesses want to aim for labor costs equaling between 20 and 35% of gross revenue. In the above example, labor costs are a little high. Higher labor costs should signal to business owners and managers that it’s time to review costs. 

Ideal costs vary by industry. Hospitals, commercial banking, and teaching (high school and college) usually have higher labor costs. Industries where some labor cost is passed on to consumers through tipping tend to have lower labor costs. 

There are many strategies for lowering payroll costs. Here are some of our favorites:

1. Focus on efficiency: Streamlining processes is key to lowering the cost of an employee. Use the 80/20 and work with your staff to locate where you can trim the fat. Incentivize staff efficiency with prizes and rewards. 
2. Avoid overtime: You probably already have overtime rules in place, but when labor costs run high, it’s time to tighten down. 
3. Use flexible scheduling: Keeping a mix of full-time, part-time, and seasonal workers makes it easier to schedule time off and cover unexpected sick days. Workers with flexible schedules report higher levels of productivity and satisfaction as well. 
4. Reduce turnover: You can’t reduce overtime or allow for flexible working schedules if you don’t have enough (happy) people on your team. 
5. Cross-train everyone: Especially during a labor shortage, having a staff of Swiss army knives is a huge benefit. 
6. Focus on culture: A happy workplace is a more efficient one. When teams like and respect each other, they’re more likely to jump in and help when scheduling gets tough.  
7. Renegotiate perks: Ask your staff which perks they love and which they don’t use. Eliminate those not in use and replace them with less expensive but more desirable perks.
8. Automate and outsource: Make use of software to automate tasks like emailing appointment reminders. Outsourcing to contractors when practical eliminates the cost of benefits. 

Pay cuts and benefits reductions should be last on the list, as these can hurt staff morale. It also makes it harder to hire and keep efficient people on your team.