Running payroll can be a complex process made more so by the need to be in full compliance with both state and federal labor and tax laws. No one wants to be audited by the IRS, or sued by state or federal labor departments, so it’s a good idea to keep payroll errors to a minimum. Especially those errors that are difficult to catch.

 Below are six common payroll errors, that fortunately are not that difficult to fix.

1. Misclassifying Employees

Misclassifying a worker as an independent contractor rather than as an employee.

This is big mistake of course because of the possible reclassification that might come later on. If and when that happens, you are responsible for paying employment taxes, handling back withholdings and will no doubt have to pay fines and interest penalties. If you can't demonstrate proper reasons for classifying them as an independent contractor that meet IRS criteria, you might be in for a world of hurt with the IRS. Internal Revenue Code section 3509 covers this scenario. You can read more about the details of an employer's liability at the Cornell University site. The keys to understanding whether a worker is an independent contractor or an employee mostly have to do with control and independence.

1. Payroll Manager Uses ‘Ghost Workers’ to Embezzle $480,000

We've written a couple of posts about fraud as it relates to timesheets and overtime pay. This one is about what happens when management level employees, like a payroll manager embezzle money.

Grady Memorial is the largest hospital in Georgia and the main public hospital for the city of Atlanta. It employs about 5,000 people, so that is a considerable payroll to manage. The thing is, a former director of payroll did a little more than manage it. He was convicted of embezzling $480,000 from the hospital. For several years, he oversaw payroll for all employees and he knew the internal payroll system well. With his administrative system access he also falsified vacation and severance pay records for employees that had been terminated.

Federal Labor Standards Act compliance has been a concern of employers since the Act was passed in 1938. But labor rules compliance didn't begin with FLSA compliance. The history of employee time tracking predates the Revolutionary War.

Complex employee overtime rules make calculating payroll a challenge. Get it wrong, and your workers don't get the pay they're entitled to. Get it really wrong, and your company can get sued or sanctioned.

With years of experience, payroll managers become familiar with the rules they deal with on a daily basis. But unique state requirements and contract provisions in collective bargaining agreements add layers of complexity to already complex labor rules.

U.S. labor rules

State laws can be more restrictive than U.S.laws,but they can't be less restrictive. In many states, these federal laws are the starting point for more complex overtime rules set by state legislatures:

• Employers pay workers time and a half after 

An employee forgets to properly log his sick time for when he was out on Monday. Because he’s in a rush on Friday he submits a timesheet that incorrectly says he worked on Monday. His supervisor is busy and signs the time card without checking. The time card information goes to payroll and gets processed. The employee gets a paycheck the next week showing a vacation balance that's 8 hours too high, and 8 hours of regular time he did not work. 

Companies Lose Money, Time and Productivity

Employee timesheet errors are rampant in some organizations. They can happen when employees take time off but code it as jury rather than vacation. They might receive a pay differential when they work in another cost center but fail to code their hours with the right cost center number. Employees can accidentally under report work hours, or when their supervisors are not paying attention, over-report work time. Once you process these errant hours and pay employees, you now must correct these mistakes and any additional errors they create.

How much does it cost to correct pay data errors? A lot.

First, all of these errors will create the need for FICA corrections, and in some cases you will need to file IRS Form F941x which requires detailed explanations of every correction. If your FICA underpayment is greater than or equal to 2% of your total FICA obligation, you will owe penalties and interest if you do not correct errors and make these adjustment payments with your next quarterly return. 

Another area where time card errors uncorrected will hurt is for hourly worker defined contribution amounts.  These are calculated based upon hours worked.  Any errors not fixed by year end will be even more expensive to correct. 

All of these errors cause even more damage to your business, not only rippling through an employee's entire paycheck, but infecting your accounting systems, accounting costs, billable hours and invoices. All of these errors need to fixed.

A new year has begun, and it's time to look at some of your business practices. Are you still using paper timesheets? If yes, then you are probably experiencing some of these problems:

Problem #1: Clerical errors

You spend a lot of time correcting errors.

Using paper timesheets means someone has to read everyone's handwriting, and has to enter numbers from a piece of paper to a computer, or hopefully not a paper ledger. Those errors can cost you time and money in reconciling with employees. Those errors can also cause you legal problems. There is a way to take care of all those errors.

There are many ways employee hours can be paid wrong. When you're calculating everything manually, mistakes can be made. For the Southeast Kansas Regional Correctional Center, they saw big problems when the latest paychecks came out for their employees, and they ended up much bigger than had been anticipated. In short, it was a massive trainwreck.