When you’re a business owner, one of the first things you learn is how to pay employees. Your employees make your business work, and in return, you pay them a salary or hourly wage.
Processing payroll can be time-consuming and complicated, and it’s easy to make mistakes. But those mistakes can be costly. You could lose employees or incur hefty fines from the IRS. But don’t worry too much yet. We’ll go over all the most common mistakes and how to avoid them.
So without further ad, here are the top seven payroll errors and their fixes:
1. Misclassifying Workers
Before you add employees to your payroll, you need to classify your business relationship with them. Are they permanent staff, freelancers, or contractors? Or do they have any tax exemptions? Two of the most common misclassifications are:
- Confusing exempt and nonexempt employees
- Misclassifying employees as independent contractors and vice versa
Exempt vs. Non-Exempt Employees
What’s the difference between exempt and nonexempt employees?
Exempt employees are:
- Paid a salary rather than an hourly wage
- Don’t qualify for overtime
Meanwhile, non-exempt employees:
- Are typically paid an hourly wage
- Paid overtime if they work more than 40 hours per week
So, if you misclassify a non-exempt employee as exempt, they miss out on overtime pay. You will then owe back wages, and the IRS could penalize you.
Employees vs. Independent Contractors
Now onto the next classic classification error–confusing employees with independent contractors. Make sure to get this right, or you could face penalties from the IRS. Here are the main differences between the two:
How to Avoid Classification Mistakes
First, you should review the Fair Labor Standards Act (FLSA) on employees vs. contractors and exempt vs. non-exempt employees. You should also check the relevant laws in your state.
If you’re still unsure, file Form SS-8 and the IRS will tell you the proper classification.
2. Miscalculating Overtime Pay
When there's extra work to do, things can get a little chaotic at any small business. It can be hard to track employee hours when managers, employees and owners are focused on meeting a big surge in work. But not accounting for extra hours or overtime (i.e., underpayment) can lead to a dip in morale and result in fines. Employees can rack up hours you didn’t expect them to if they:
- Work during their break time
- Travel between work sites for the job
- Attend team-building or other work-related activities outside normal hours
All of these would be counted toward their working hours, and if you aren’t tracking them, you might miss paying your team overtime wages they're owed.
How to Avoid Overtime Mistakes
One major way to avoid this problem is to use a time tracking and payroll platform, like Hourly. Employees clock in right from their phones, and employers can see their locations and how long they’ve worked in real-time. Hourly also reminds employees if they missed clocking out, and they can fix any time errors right on the app.
Other than that, make sure you’re paying time and a half or 1.5 times your employees’ hourly rates for any hours worked over 40 hours. State and city laws may vary too, so make sure your payroll app or whoever is running payroll has those down.
3. Paying Late or Inconsistently
While businesses can be unpredictable, one thing that shouldn’t be is employee wages. Employees rely on their paycheck arriving on time each pay period, so late or inconsistent payments can lead to a lot of anxiety. That can definitely affect your bottom line if employees leave or they are less motivated to do their job well.
Also, most states have laws for when you need to pay team members by. You can pay your team more frequently than this, but not less. And it’s never acceptable to skip a payment.
How to Avoid Pay Frequency Mistakes
Set reminders to pay employees or set up automated payments with payroll software like Hourly. If a late payment is unavoidable, you must tell employees immediately. This could be in person or via video chat.
4. Not Maintaining Proper Payroll Records
It’s important to maintain accurate records, especially when it comes to payroll. Poor record-keeping leads to inefficiency, confusion, and payroll mistakes like miscalculating overtime. It can also result in tax filing errors.
The federal government requires you to keep at least three years’ worth of payroll records. This should include hours worked, payroll dates, payment rates, names, addresses and social security numbers, and more. Some states require you to keep records dating back even further or include more information. Plus, you should track emails relating to payroll, especially if you email employees their payslips.
How to Avoid Payroll Record Mistakes
One way to avoid payroll record mistakes is to outsource your payroll. Payroll management companies like Hourly are familiar with the latest federal requirements. They also have the time, people power, and resources to keep detailed records for you. Hourly can do all that–and sync your payroll with your workers’ comp, so you’re always getting super accurate premiums.
5. Incorrect or Incomplete Tax Forms
Mistakes on tax forms can be costly, especially if your business underpaid payroll taxes. You’ll owe a ton later, but to add insult to injury, you can get fined. Not just for underpaying, but for overpaying too, and a host of other mistakes including:
- Having the wrong amounts on your taxes, like the amount paid towards pensions
- Late submission
- Wrong name, address, or any other info.
Tax form errors can also cause problems for your employees. For example, if Form 941 (Employer’s Quarterly Federal Tax Return) doesn't match their W-2 form, they could face a delay in the processing of their refund. They will also have to fill in a lot more paperwork and, if you don’t act quickly enough, could file a complaint against you with the IRS.
How to Avoid Tax Form Mistakes
To avoid tax form mistakes, you could use payroll software or hire a payroll service. Hourly submits all your federal and state taxes on your behalf and sends you the forms you need to ship out to employees by the end of the year.
But, if you decide to do it the hard way and manually fill out tax forms, you should:
- Re-check your figures.
- Make sure the information is complete and in the correct place.
- Stay on top of all the new and updated tax laws.
If you do make a mistake on your tax form, you need to use an IRS “X” form to fill out an amended return. For instance, for a mistake on Form 941, you need to fill out Form 941-X to amend it.
6. Missing Payroll Tax Deadlines
Missing payroll tax deadlines is a serious error since the fines start stacking up the day after your form’s due date. Here’s how the late penalties break down:
- 1 to 5 days late: 2% penalty
- 6 to 15 days late: 5% penalty
- More than 15 days late: 10% penalty
- More than 10 days after your first notice OR the day you receive a notice for immediate payment: 15% penalty
How to Avoid Tax Deadline Mistakes
As we've discussed, it's worth investing in payroll software. Hourly takes care of all those complicated and nagging payroll tasks for you, including paying your employment taxes–on time and with accuracy. This ensures you don’t miss important deadlines. You could also:
- Check the important tax form deadlines for the year and mark them on your calendar.
- Hire a tax filing company to file your forms.
7. Overlooking Holidays
If your paydays are on a fixed schedule (for instance, the 2nd of every month or the last Friday each month), they may fall on a bank holiday at some point. This will delay your payments by at least a day. This may not sound like much, but any late payment can be really hard for employees. And that can definitely cause a drop in morale.
How to Avoid Holiday Mistakes
First, make sure you know when bank holidays are, including overseas holidays, if you have employees in different countries. You can then adjust your payment schedule so you pay workers the day before the bank holiday.
Second, to calculate pay after an employee leaves, add the holidays onto any extra unused vacation they didn’t take. For example, say your employee has five days of unused leave. If a public holiday falls within that period, you should pay them for six days.
Best Practices to Improve Payroll Efficiency
To improve the efficiency of your payroll processes and reduce the risk of errors, try these best practices:
Automate Your Payroll Processes
Around one-third of businesses say payroll processing takes more than four days to complete. What’s slowing them down? For 30% of companies, the most time-consuming part of payroll processing is manually entering or sending out pay. To save time and improve efficiency, think about working with a payroll provider like Hourly, which has everything you need to pay your people, taxes, and your workers' comp…with one click!
Develop Standard Procedures and Guidelines
To reduce payroll mistakes, create a set of standard procedures that everyone in your company follows. This could be a manual or electronic document that details each aspect of your payroll. It should also include policies for record management and filling out tax forms.
Work with Your Employees
Sometimes mistakes are inevitable, but the worst thing you can do is ignore them. Why? Well, they usually get bigger. For example, an employee might notice an issue with their paycheck, but if you approach them proactively, they won’t need to take the time and brainpower to fix the mistake. So keep your workers informed and have procedures in place to address errors.
Keep up-to-date with laws and regulations. Payroll laws and regulations vary by state or even city, and they are frequently updated. So it behooves you to stay up to date with state laws and regulations in your area. Plus, if you have workers in other states or countries, you need to check the relevant laws there too. By following the latest rules and policies, you can keep your payroll processes up-to-date and avoid costly fines.
Get it Right with Payroll…or Pay!
Payroll is crucial for your business, so it’s important to get it right. Mistakes can lead to disgruntled employees and penalties from the IRS, both of which hurt your bottom line.
By using payroll software and procedures everyone can follow, you can avoid common payroll errors and stay on top of deadlines. You can also eliminate tedious data entry that takes up valuable time.
Once you have your payroll system down? Make sure to double-check that everything is in working order a few days, weeks and months in. When you get payroll right, you keep your employees happy, avoid fines, and amp up your efficiency.
So what do you have to lose? Get out there and start automating your payroll today.
Grace Lau is the Director of Growth Content at Dialpad, an AI-powered cloud communication platform for better and easier team collaboration.