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Payroll Audit Checklist for HR Teams

There is a debate among businesses whether it is best to do payroll in-house vs. outsource it. If you do not use an outsourced payroll service, chances are your HR team is responsible for ensuring accuracy with your payroll and taxes. This can be a complicated process. In fact, 33% of employers make payroll errors every year, costing them hundreds to thousands in IRS penalties. If you manage your payroll on your own, we highly recommend that HR teams performing regular payroll audits to make sure their records are error-free. Take a look at 360Connect’s Payroll Audit Checklist for HR teams to ensure you are calculating your payroll correctly. 

1. Confirm time frame for the audit

First thing’s first on our payroll audit checklist for HR teams. You have to determine the time period for which you wish to conduct the audit. This may seem obvious, but it will help you stay organized as you navigate the payroll audit.

Are you auditing for the month, quarter, or year? You should always do a payroll audit at the end of each fiscal year. But moving forward, experts say you should also get into the habit of auditing each month and quarter as well. This could end up saving you tons of time in checking for errors at the end of the year. Not to mention, it could save you the headache of incurring tax penalties when filing your taxes. 

By the way, thinking of using a payroll service instead of managing it on your own? Check out these 10 questions to ask before choosing a payroll provider.

2. Verify employee status and confirm pay rates

The next step is to determine which employees will be involved in the payroll audit. When was the last time you updated employee statuses within your organization? If it’s been some time, you will want to go into your system to update for new hires, terminated employees, and employees’ whose hours have changed. Make sure you are 100% up to date on these employee statuses before beginning the audit.

Then, you will want to confirm each employee’s pay rate. Have any employees gotten promotions, raises, or bonuses within the audit time period? Similarly, have any employees reduced their hours? Go through your employee pay rate files carefully to make sure everything is accurate for the given time period.

3. Review time cards and pay stub data

Next, if you have any hourly employees (including contractors and freelancers), you will need to go down your list of employees and check their recorded hours worked. If you use a time and attendance system, you can reference its reports to grab this data. Otherwise, you might use a timesheet or another way of tracking employee hours. Then, you will check that the number of hours listed in the report match the total hours and total pay for that pay period. 

To do this, you will want to compare the timesheet report to the pay stubs side by side. Pay attention to the “total hours worked” line on the pay stub to see if it is equal to your report. 

If you have salary employees, you will want to make sure employee paychecks match their pay rates for each pay period. During this step, you should also look over sick pay, vacation or paid time off, and any other time off deductions. Make sure each employee did not exceed their limits, and that the pay they received matched their eligibility for these time off exceptions. 

4. Check overtime hours and any additional pay 

Does your business acknowledge overtime hours? If you have hourly employees, accurately reporting overtime hours is one of the most common errors when it comes to payroll. Missing overtime hours can result in tax errors as well as frustrated employees. If it’s been a while since you’ve reviewed overtime hours for your state, make sure you’re up-to-date on overtime laws.

Again refer to your employees’ timesheets and verify any overtime worked. Then, check to make sure you compensated employees correctly for overtime hours. If you haven’t, you’ll need to reimburse these employees using retro pay. You also may need to do some calculations for the pay period if you missed any overtime pay.

Other additional pay instances you should check for are tips, bonuses, and commissions. Review each employees’ additional pay reports to make sure they were paid appropriately. 

To make this step easier on yourself moving forward, it’s a good idea to label bonuses and commissions with details using your payroll software (if you use one). For instance, what was the bonus for (holiday, performance, end-of-year, etc.)? What did the employee sell to earn their commission? These details can be crucial when doing an audit to ensure your payroll is error-free. 

5. Verify federal and state tax payments and deductions

If you do not use a full-service payroll service, you will have to calculate how much you owe for federal, state, and local payroll taxes on your own. It’s important to understand that as a business, you are responsible for paying:

  • FICA, Supplemental Security Income (SSI), and unemployment insurance (UI)
  • Taxes on withholdings from employee paychecks

To do this you will have to go through your payroll and ensure you are paying the correct amounts for federal and state taxes, as well as review employee tax deductions, to make sure your numbers are accurate.

6. Review employee W-4 forms and verify withholdings 

Next in your payroll audit, review any withholdings your employees have listed in their W-4 forms. Check to ensure you are withholding the correct amount from each employee’s regular paycheck. This will help to determine whether or not you are paying the correct amount for federal and state taxes. 

Verify tax payments

After ensuring your withheld amount from each employee is correct, you will want to review your tax payments to ensure accuracy. You can do this by comparing your tax remittance reports alongside your payroll reports. This can be a tricky process, but it’s important that you don’t incorrectly calculate taxes owed. If you need assistance with these calculations, you might want to seek help from a professional bookkeeper, CPA, or payroll service. 

Review nontax deductions

There may also be deductions from your employee paychecks that are not tax-related. Review each employee’s regular paychecks to determine any other deductions, and account for them properly. Some common additional deductions include: 

  • Health insurance
  • Wage garnishments
  • Retirement and 401k

Make sure that the employee and employer are paying the correct amounts towards health insurance and similar expenses. 

7. Run a general ledger report and look for inconsistencies 

After checking and verifying the above factors, you will want to run a general ledger (GL) report to double check for any inconsistencies. A general ledger report will show you the financial activity overall for your business during the given time period. By pulling this data, you will be able to ensure that the work you did to verify payments, taxes, etc. is all accurate. 

If you discover any inconsistencies, unfortunately you will have to go back to the above steps and make some recalculations. If you discover any errors, you may have to look into retro pay or back pay.

  • Retro pay allows you to reconcile a previous payroll mistake in the employee’s next paycheck.
  • Back pay is more complicated. If a government agency determines an error in your payroll, they may require back pay as a result. You should complete back pay immediately to avoid legal issues down the road. 

8. Reconcile bank statements 

The last step in this payroll audit checklist for HR teams is to reconcile your final payroll amounts with your bank statements. You may have several bank accounts set up for specific payments and funds, so make sure to review each one of them for accuracy. 

Make sure the numbers on your payroll reports match the numbers on your bank statements. It’s also a good idea to look out for any uncashed checks (such as employee paychecks) and seek to understand why they are uncashed. While you’re at it, make sure there have been no modifications to issued and cashed checks.

Make sure to repeat this payroll audit checklist for HR teams regularly to avoid errors moving forward. It’s always a good idea to complete an audit at least quarterly and annually. 

Final Thoughts

If you are looking for an easier way to manage payroll and avoid error, consider using a payroll service. Payroll services are completely automated, so you can save tons of time and money internally on managing the payroll process. Plus, any errors incurred by the payroll service would be attributable to the provider, not your business. Look into how much a payroll service costs as well as these top payroll service providers.

We recommend comparing prices for a payroll service to see if switching could save you money. Our free service lets you compare up to 5 price quotes from top-rated payroll providers that match your business needs. Get started by using our free online comparison tool for payroll services. 

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