Effective payroll management requires making sure your employees receive correct payments, on time, and in compliance with applicable laws. However, without the right tools and resources, employee payroll can be a minefield for errors that can cost employees—and your company—time and money. Follow these tips to identify and avoid the most common payroll errors.
The 7 Most Common Payroll Errors
Of all the expectations employees have along the employee lifecycle journey, correct pay is one of the most basic. However, any number of external or internal factors can stand in the way of delivering correct paychecks, W-2s, and related payroll reports. To exceed your employees’ expectations for error-free payroll, watch out for these seven errors:
Misclassifying employees can result in incorrect pay, ultimately leading to overpayment or underpayment of wages. One of the most common misclassification errors is making an incorrect determination about whether an employee should be exempt from overtime. Per the Fair Labor Standards Act (FLSA), all employees must receive overtime pay for any hours worked over 40 hours per week, unless they are classified as exempt. Classifying a non-exempt employee as exempt not only opens your organization to FLSA-related fines, but can also cause an employee to miss out on overtime earnings.
Another common payroll error happens when an individual is classified as an independent contractor rather than an employee. A misclassification error often results in having to research historical payroll records and make retroactive payments or other adjustments to employee pay. In 2019 alone, the US Wage and Hour Division of the Department of Labor recovered a record $322 million in back pay for misclassified employees. Misclassification not only creates trust issues with your employees, but it is also likely to cost your organization money.
An incorrect paycheck can be frustrating for any employee, particularly if the error results in missed payments. Miscalculations also waste time, as you’ll need to dedicate hours or even days to investigate and correct errors outside of the regular payroll cycle.
According to an American Productivity & Quality Center (APQC) study, organizations take between two and ten days to resolve a payroll error. In the time it takes to fix those errors, employees can grow frustrated or even have trouble paying their bills.
Pay miscalculations can happen with salaried or hourly employees. Common miscalculation scenarios include the following:
- Overpaying or underpaying employees
- Making erroneous retroactive payments
- Missing the first paycheck for new hires
- Deducting the wrong amount for benefits or other payroll deductions
- Improperly paying employees who are on disability or other leaves
Not tracking employee hours and overtime
Incorrectly logged overtime hours can lead to improper overtime payments, which leads to corrections possibly spanning across multiple tax years. Correcting those errors takes time and can be incredibly unsettling for employees, whether they are underpaid or overpaid and have to return money to the company.
Paying overtime is not just a matter of paying employees the standard 1.5 times their normal pay rate when they work over 40 hours in a week. Overtime payment errors can arise if you miss a payment in any of the following scenarios:
- When employees work during break times
- When employees spend time traveling between work sites
- When employees are required to participate in activities outside of normal hours, for example, in training, teambuilding, or company parties
Not reporting all forms of taxable employee compensation
Employee pay comprises more than salary, overtime, commissions, or bonuses. In addition to reporting the more traditional forms of employee pay, you also need to report other forms of taxable compensation to the IRS, such as:
- Stock options and other equity awards
- Employee rewards such as gift cards or travel awards
- Personal use of a company car
A small gift or award to an employee may not seem like compensation, but the IRS may view it as part of your payroll. Not reporting these other forms of compensation can result in tax filing penalties for your organization and the affected employees.
Incomplete or disorganized records
An unorganized and inefficient payroll process can be a recipe for disaster. Relying on paper processes, manual data entry, or a mass of Excel spreadsheets leads to errors that may take weeks or months to uncover. Disorganized records can also lead you to miss an employee payment or follow-up on items needing urgent attention.
Also, having a manual system for managing payroll increases your reliance on one person to manage all payroll actions. Without an organized and automated payroll system, it’s harder for someone to fill in when the payroll manager is out of the office or leaves the company. It can also set you up for problems in the event of an audit or process review.
Missing important deadlines
Employees expect timely and accurate pay each payroll cycle. By missing the close of a payroll cycle and making late payments, you can create more headaches for employees. And, if you miss tax filing deadlines, your organization can face late filing fees and possible regulatory penalties as well.
Besides a regular paycheck, the W-2 is the only payroll document employees receive from your company. The W-2 includes employee gross and taxable income, and shows their total payroll withholdings for benefits, 401k, and health spending accounts. Since employees use W-2s to file annual taxes, even one small error can create a ripple effect of headaches and lead to W-2 reissues, penalties, and frustrated employees.
How to Avoid Errors and Improve Your Payroll Management
You can avoid the most common payroll errors with the help of resources and tools to help you automate payroll processes and stay aligned with legal requirements. Take these steps to avoid errors and increase the efficiency of your overall payroll management program:
Establish clear policies for payroll
Create a manual describing all of your payroll activities, including when payroll exceptions are made and the procedures for reviewing and approving changes. You should also create a policy for records management and retention. Doing so helps you comply with legal requirements, for example, the FLSA requirement to keep payroll records for up to three years.
Evaluate your current payroll provider and processes
A thorough review of existing processes will help you uncover inefficiencies and areas for improvement. If your organization is experiencing errors and needs a fresh approach to managing payroll, you may need to consider switching payroll providers. As you identify your company payroll priorities, you can identify a payroll partner that aligns with your goals, and then take careful steps to ensure a seamless transition.
Automate and integrate payroll processes
An integrated payroll system automates payroll workflows, helping you avoid manual entry, paper-intensive processes that can often open the door to errors. In addition, an integrated system keeps payroll activities aligned with time tracking, scheduling, and employee benefits elections, so you can manage the workforce and achieve consistency between payroll and HR data.
By automating payroll activities and integrating them with other HR activities and reporting, you can avoid common payroll errors and achieve the following benefits:
- Align actual employee pay with HR actions such as salary adjustments and bonus awards, which supports accurate employee and pay classifications.
- Have one system for recording employee hours and calculating overtime, thus reducing reporting and payment errors.
- Consolidate reporting to help you view and manage the workforce from one platform, so you can see discrepancies and payroll changes in real-time.
Develop a detailed payroll calendar and checklist for weekly and monthly activities
Having a clear process for paydays, issuing W-2s, and meeting payroll tax obligations helps you avoid missed deadlines and late filing penalties. By following a payroll calendar throughout the year, you always know what’s next, and you can plan the time you spend on payroll more effectively.
Keep track of the latest laws and regulatory updates
There are many existing laws affecting how you administer employee pay, and regulations change over time. In addition to understanding the basic requirements of FLSA and tax withholding laws, you also need to understand how to apply newer programs such as the Payroll Protection Plan (PPP). By keeping track of regulatory updates, you can make changes to payroll processes accordingly, instead of playing catch-up with every law change.
Deliver the Right Paycheck Every Time
Errors do happen sometimes, but there are proactive steps you can take to minimize and avoid some of the most common payroll errors. Getting payroll right is a great way to exceed employee expectations and build their trust in the organization. With the support of a reliable partner and an integrated payroll system, you can build an efficient payroll process, stay in compliance, and deliver error-free paychecks to your employees. For more insights, read our Ultimate Guide to Choosing the Best Payroll Provider.