5 Common Payroll Mistakes That Are Totally Avoidable

Payroll mistakes blog header

The Costly Price of Payroll Mistakes

Let’s face it, managing your payroll sucks. You’re juggling meticulous procedures with unreasonable deadlines, and whatever else you’re working on. Not to mention, payroll processes can become incredibly complex if you have a lot of manual systems and calculations. So it’s no wonder that payroll mistakes can easily occur.

However, payroll mistakes can be costly and tedious to fix, and permanently impact your employee experience. That’s why it’s crucial to avoid common payroll mistakes whenever possible. In this blog post, we’ll outline five common payroll mistakes that are totally avoidable.

Misclassifying employees

One of the most common payroll mistakes is misclassifying employees. There are two classifications that that create huge compliance issues: overtime exemption and employee status.

Overtime Exemption

Fair Labor Standards Act requires employers to pay employees not exempted from overtime for all time worked. This must be at a special rate (FLSA requires overtime to be calculated at 1.5x employees’ regular rate of pay) in addition to regular wages. All hourly employees are overtime non-exempt. Some salaried employees are non-exempt.

Here’s a dead giveaway that you are misclassifying employees as overtime exempt:

  • The employees are using a time clock to record hours worked.
  • The employees are not performing work essential to your business.
  • The employees do not possess a managerial role in the company, approval rights, and sensitive financial knowledge.
  • The employees are not in specialized roles which require advanced degrees and significant experience.

Employee Status

The IRS defines what an independent contractor is, and what it isn’t.

How do you know an employee is an independent contractor or an employee? Some states have developed their own tests, which go beyond what the IRS defines and the Department of Labor requires. In general, the employee is misclassified as a contractor if:

  • The contractor’s work is defined and directed by the payer (the employer).
  • Benefits are provided to the contractor, such as paid time off, commuter benefits, and health insurance.
  • The contractor is doing work identical to employees doing the same work in the company.
  • The contractor does not issue invoices, and is paid based on a salary or hourly wage.
  • The contractor pays payroll taxes and is issued a W-2.
  • There is no actual contract or statement of billing and services on file.

Misclassifying an employee can have significant consequences, including federal and state fines, court-awarded damages, and backpay. Be sure to correctly identify your employees’ classification from the start, and review periodically as the job roles change to avoid making payroll mistakes.

Failing to Keep Accurate Records

Keeping accurate employee records is essential for ensuring your payroll runs smoothly. If you don’t have a system in place to track payroll data, make a priority of acquiring superior HR tech. It’s very easy to ruin the pay cycle, by forgetting about employee changes during the pay period or rounding timecard hours improperly. Invest in a rock-solid HR and Payroll system with great audit trail reporting, and keep it updated.

payroll mistakes - lack of accurate employee data with audit trail
Accurate Audit Trail of Employee Payroll & HR Data – Rippling Example

Payroll data for which you should have superior tech and internal competency to accurately handle:

  • Hours worked
  • Variable compensation calculation and frequency
  • Paid time off
  • W2/W9 info
  • Special deductions, such as court-ordered garnishments

One of the key traits of People Operations (vs regular HR) is a continuous push to integrate, automate, and drive high user acceptance for all your HR technologies. You should be striving for as many employees to user your systems effectively as possible. When HRIS user acceptance is high, they will do half the work for you, keeping their own employee data (updating addresses and W4 data, for example) accurate and current as a normal part of working at your company.

Forgetting to Deduct the Correct Taxes

When calculating payroll, factor in all the relevant taxes, including federal and state income taxes, Social Security taxes, and Medicare taxes. Modern online payroll services calculate taxes accurately if your employee data is accurate. Failing to deduct the correct taxes can result in fines and penalties from the government. Double-check your calculations and ensure all the relevant taxes are being deducted.

Failing to Pay Employees on Time

Paying employees on time is necessary for keeping morale high and to comply with labor law. Late payments can lead to unhappy employees and legal action, including lawsuits. Define your pay cycle with enough days for payroll to be reviewed in detail, and ensure sufficient cash requirements in the company payroll account.

Your bank account must have enough cash for the payroll company to debit for your net pay. If there is not enough, you will receive a Non-Sufficient Funds (NSF) notice from the payroll company. Generally, the standard number of allowable NSFs on your account is three. These payroll companies must abide by rules set by their banks, and are very strict with payroll funding as a result.

They will terminate your right to run payroll with them if you hit that limit. Even if you recover your account, they may require you to issue paper checks or lose quick payroll processing privilege (“2-day payroll” for example). They most certainly will require you to make up the payroll balance with a wire transfer of funds, and will not release payroll to the employees until you do so.

payroll mistakes - NSF and delayed payroll
Non-sufficient Funds Wire Transfer Request – ADP Payroll Example

Not Keeping Up with Payroll Laws and Regulations

Payroll laws and regulations can change frequently. Failing to keep up with these changes can result in costly mistakes. You can prevent unknown changes to payroll law by subscribing to payroll company newsletters and RSS feeds directly from the agencies, municipal, state, and federal. Stay informed about any updates to payroll laws and regulations, set up a compliance calendar for important dates and changes, and adjust your practices accordingly.

How to Find and Eliminate Payroll Mistakes

If the above errors keep happening, you need to stage an intervention. You can find the root cause of the problems by running an internal audit of payroll procedure, recordkeeping, and technology. It’s very likely you don’t have the time for these very crucial activities, so as a best practice, leave it to the professionals – whether that be us good folks at Poprouser, your PEO, or your bookkeeper (if payroll is in their competency and financial scope of duties).

If you choose to go it alone, remember that manual processes slow down payroll and increase the chance for payroll mistakes. As a remedy, document all your payroll-related processes, and I mean all of them… from issuing pay changes to importing payroll journal data into the accounting software. Create Standard Operating Procedures, which will live on way after the payroll operator leaves the company, and makes it easier to train replacements on the finer details of the job.

Avoid these payroll issues whenever possible, so you never have to explain the screw-up to the angry employees, or face fines and legal action. Using the tips above, you can minimize the risk of payroll mistakes, and pay your employees correctly and on time, all the time.

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Employers routinely overspend on payroll, resulting in excess labor costs of up to 2% of your total annual payroll total.
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Cody Bess