Do you know the most common payroll compliance mistakes? Odds are your organization has made some of these, as well.
[This post was originally published in May 2017 and has been updated and revised to reflect current information.]
Payroll compliance can be challenging for any business, large or small, and failing to stay in compliance with payroll and other labor laws can be costly. This is especially true since one of the most common employee legal claims against employers involves payroll issues.
For example, according to reports from the U.S. Department of Labor (DOL), minimum wage violations in California alone occur approximately 372,000 times each week.
Failing to Comply Can Be Financially Devastating
A press release from the State of California's Department of Industrial Relations (DIR) in February, 2019 carried this headline:
"Labor Commissioner’s Office Cites RDV Construction $12 Million for Wage Theft Affecting More Than 1,000 Workers"
While this is not necessarily a typical fine, it does illustrate the potential severity of the financial burden that can come from payroll non-compliance, intentional or otherwise.
And the costs of non-compliance means more than possible fines, fees, and government penalties. There is also the time and labor involved in going back and re-doing paperwork, correcting existing errors, and filling out additional forms. The added labor that is the result of mistakes can cost you far more.
According to a 2017-2018 Fiscal Year Report from the DIR's Bureau of Field Enforcement, as a result of 4,166 inspections in a variety of industries, there were over 3,800 violations recorded that accrued more than $77,600,000 in penalties along with over $78,800,000 in lost wages assessed.
While a portion of these penalties and owed wages are contested and held up in appeals and legal actions, the costs to companies can still be staggering. In addition to wage issues there are always potential problems with payroll taxes.
Five Common Payroll Compliance Mistakes
An full list of payroll errors could fill a small book, but here are five common errors made in payroll compliance practices that should be avoided:
1) Employee Payments Outside Of Your Payroll
All payments to employees, regardless of the form or intent, should go through payroll since these are considered a form of taxable wages. In other words, any bonuses, commissions, or even tangible gifts in lieu of cash payments, are usually considered taxable income or wages. Even gift cards are considered the same as cash and need to be included in taxable wages.
You may, however, apply for business reimbursement expenses for some items providing you have supporting receipts. And keep in mind that the IRS requires employers to accurately withhold the proper payroll taxes from payments to employees.
2) Failing to File Appropriate Forms on Time
As of October 1996, the federal government requires employers to report all new hires to their state agencies. They are required to report this information within 10 to 20 business days. The state then provides this information to the National Directory of New Hires (NDNH).
In addition to individual employee hiring requirements, there are quarterly and Year End payroll tax filing deadlines that must be met in order to avoid penalties, fees, and possible audits. These include:
- Form 941 filings that are due on the last day of the month following the end of the quarter
- Most state quarterly filings that are due on the last day of the month following the end of the quarter
- Year End deadlines for distributing W-2s to your employees, 1099s to your vendors, and filing paper 1096 and 1099 forms with the IRS
3) Assigning the Wrong Classification for a Worker
Workers can be classified as employees, independent contractors, a statutory employee, or a statutory non-employee, each of which are fraught with potential for misunderstanding. Referring to the IRS Publication 15-A is a first step to clarify the IRS definitions of employment status.
Secondly, be sure to use the IRS Form SS-8 to determine the worker's status for tax purposes. The IRS will then notify you as to what employee classification category the worker should be classified under.
Don't neglect to withhold taxes and report wage and tax information during the time until the IRS has informed you of their classification decision. A failure to withhold taxes or report wages could result in penalties after you file taxes.
4) Failing to Keep and Maintain Employee Records Accurately
Because of the sheer volume of records and the large number of payroll compliance requirements surrounding them, this is an area that is likely to result in unintentional non-compliance. Checklists are again a great tool to employ to keep everyone responsible for employee and tax records informed of what is required.
The Fair Labor Standards Act (FLSA) has specific time regulations for employee documentation:
- Employee payroll records must be stored for at least three years after the last entry date.
- The IRS requires employee records be held for four years after the employee leaves the workplace.
- Any workplace that employs 50 or more workers must keep records regarding any employee leave in compliance with the Family and Medical Leave Act (FMLA).
In addition, each state adheres to individual laws governed by unemployment agencies that require businesses to retain employment records. The time frame to hold onto these records can be between four to seven years.
5) Inaccurate Tracking or Payment of Overtime Pay
Employers must keep in mind that for almost all nonexempt private sector California employees who are not covered by collective bargaining agreements, California overtime pay is based primarily on the number of hours worked in a day. In addition, and employer must also account for weekly totals when calculating California overtime.
Most hourly employees in the California are entitled to a special overtime pay rate for any hours worked over a total of 40 in a single work week, which is defined as any seven consecutive work days by the FLSA. This is an area that many employers tend to have some confusion, but the onus of accurate overtime payment falls on the employer in most cases.
Another California labor law overtime rule provides for any employee who works for more than 15 hours in a single day to be paid at least one and a half times their normal rate for all hours worked over the overtime limit.
Regular Rate of Pay
When calculating overtime pay in California, you must use the employee's "regular rate" of pay, not the normal hourly amount. The regular rate is not simply an employee's normal hourly amount. The regular rate is a term used to mean the employee's actual rate of pay once all hourly earnings plus many other types of compensation are considered. The regular rate must include nearly all forms of pay received by that employee.
Only hours worked at straight-time apply to the weekly 40-hour limit. This prevents "pyramiding" of overtime, where an employee earns overtime on top of overtime already paid.
More Information to Help With Maintaining Payroll Compliance
Payroll processing and payroll compliance is often a labor-intensive requirement for employers, and there are scores of resources available for the employer who chooses to manage their own payroll processes.
Here are a few for your reference:
Another option to consider is outsourcing to a managed payroll service. By outsourcing these functions you can also outsource all of the requirements that are currently on your HR staff to maintain compliance.
If your company would like to learn more about its obligations, or acquire resources to deal with payroll requirements, Accuchex recently partnered with HR Solutions Partners to offer its customers the most up-to-date and professional human resources management solutions available.
To learn more about the different levels of Human Resource Management services available, please click this link. To learn more about the other payroll services Accuchex provides, click on the button below to get our free consultation.