A single payroll mistake can derail your business. Simply paying people a day late can stir up distrust among workers.

Unfortunately, small businesses in particular are more prone to errors due to limited resources and administrative personnel. Luckily, payroll software and knowledge can help prevent common payroll errors.

Let’s take a look at the nine most common payroll mistakes, along with ways to avoid them.

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1. Classifying employees incorrectly

You’ve likely heard about the differences between W-2 employees and independent contractors. Many workers obviously count as the former. But things can get tricky with unconventional arrangements.

For example, a contractor expected to arrive on a strict schedule is more akin to an employee. These nuanced details can get misunderstood and lead to costly legal fights. Tech giants Uber and Lyft are two examples of businesses buried in lawsuits due to categorization challenges.

Solution: Dive deep into state and federal laws and IRS guidelines. Always lean on caution rather than profit — when uncertain, seek expert advice. Given the severe consequences of miscategorization, consulting with an attorney is best. Indeed, a minor legal consultation fee now can save significant penalties in the future.

2. Failing to remit quarterly taxes on time

Late or missed tax payments can snowball into a cascade of challenges for a business.

First, the financial implications are immediate. Late fees, interest charges and other penalties can accumulate over time to become an even bigger issue. But these additional expenses, while burdensome, are just the tip of the iceberg. Chronically late tax payments can flag your business to tax authorities, leading to increased scrutiny and even comprehensive audits.

And beyond the tangible financial setbacks, there’s a subtler yet equally impactful cost: The damage to your business’s reputation. Suppliers, partners and potential investors often evaluate a company’s discipline. Regularly missing tax deadlines can signal a lack of organization or deeper troubles. This negative image can deter potential partners and investors.

Solution: Effective payroll and accounting software can remind you of important tax deadlines — some titles even file taxes automatically. But in addition to reminders, you should create a dedicated financial reserve for taxes. This minimizes the risk of cash flow issues interfering with tax obligations. An accountant or dedicated financial professional can also provide invaluable oversight.

3. Incorrectly remitting wage garnishments

Legal obligations like wage garnishments are non-negotiable. These deductions, meant for child support, tax levies or other court-ordered payments, require meticulous attention to detail. Incorrect handling can place businesses in legal crosshairs and strain relationships with employees.

Solution: Regularly train HR personnel on garnishment protocols. Ensure transparent communication channels with employees to address any concerns promptly. Finally, if you use payroll software, ensure it’s properly deducting garnishments. You must manually submit the cash to the proper authorities if it doesn’t automatically remit payments.

SEE: The Best Payroll Apps of 2023

4. Not calculating overtime correctly

Overtime miscalculations can lead to legal complaints, not to mention a disgruntled workforce. And with each state having varying regulations, it’s easy to get lost.

Generally, non-exempt employees receive one-and-a-half times their hourly pay if they work over eight hours in a day. But this varies depending on your locale. Some states or occupations only require this boosted pay if a person exceeds 40 work hours in one week, regardless of their daily hours.

Solution: Carefully research your state and county’s overtime laws or consult an attorney to stay confidently compliant. Also, implement regular training sessions for HR personnel so everyone is on the same page. And lastly, invest in a payroll software solution that can calculate overtime automatically.

5. Calculating bonus and commission taxes incorrectly

Bonuses and commissions are morale boosters for employees. But they can cause headaches for employers.

This is because these one-off payments have unique tax rules. For example, the IRS dictates that bonuses under $1 million are subject to at least a 22% tax rate. Meanwhile, commissions can see a 25% levy. And these numbers are just the start. Each state also sets its own rules.

Solution: Conduct monthly or quarterly tax audits. Ensure your payroll and accounting software titles are updated to reflect the new laws. And don’t forget to meet with an accountant or attorney to determine the proper tax rates for these special payments.

6. Not keeping correct payroll records

If your payroll records have errors, it can throw off all your numbers. These kinds of mistakes are especially likely if you manually input the data.

Beyond human error, digital record-keeping is prone to data breaches and accidental deletion. And trust us, your business can morph into a living nightmare if your data is lost or stolen.

Solution: Set up automated payroll runs so there’s minimal chance of human error. Integrate your payroll and accounting software together so your books are always up to date, and opt for cloud-based data storage with multi-layered security. And finally, regularly review access permissions and conduct periodic data integrity checks to keep bad actors away.

7. Paying employees on the wrong schedule

A business operating across state lines must juggle multiple pay schedule laws. Some states require paychecks to be cut at least twice a month. Meanwhile, other locales, like Kansas, mandate payouts only once a month at the minimum.

Things get even more complicated if your business operates internationally. Independent contractors also adhere to different pay schedules. Clearly, there are many competing timeframes for paying employees.

Solution: Design a company pay schedule that adheres to the most stringent pay frequency laws. This strict planning ensures compliance across the board, eliminating state-specific discrepancies.

8. Not understanding exempt vs. nonexempt employees

Classifying employees as exempt or nonexempt is a foundational element of payroll management. Yet, it’s an area rife with confusion for many business owners. This distinction, rooted in the Fair Labor Standards Act (FLSA), determines eligibility for overtime pay, break periods and job responsibilities, among other items.

Exempt employees are typically salaried and hold managerial or specialized roles. They aren’t eligible for overtime pay, regardless of their weekly work hours.

Nonexempt employees, on the other hand, are generally hourly workers. These folks are entitled to overtime pay when they exceed either eight hours a day or 40 hours a week.

Mistakes in these classifications can lead to severe repercussions. Misclassifying an employee can result in back wages for unpaid overtime, hefty fines and potential lawsuits.

Solution: It’s crucial to revisit these classifications regularly. As job roles evolve within a company, an employee’s classification might need adjustment. Start by ensuring that job descriptions are accurate and reflect the nature of the work and compensation accurately. Audit hourly and salaried workers to verify they’re paid appropriately. Lastly, consult the FLSA guidelines or seek expert advice from a human resources professional or legal counsel.

9. Forgetting to run payroll on time

Missing a payroll deadline can launch a series of troublesome consequences.

First, paying employees late can spawn legal ramifications. As mentioned above, states have specific laws dictating the frequency of payments. Non-compliance can result in penalties, interest on missed payments and even legal action.

Beyond the direct legal complications, there’s another danger. Regulatory agencies, like the Department of Labor, can take note of repeated offenses. This pattern can lead to audits, further investigations and fines.

Furthermore, a missed payout can ruin relationships with your employees. People may question your ability to pay them properly. This uncertainty can tank morale and increase turnover.

Solution: Use software to automate payroll runs so you never forget. Beyond automation, establish a secondary manual review process. In case of anticipated delays, proactive communication with the team is crucial to managing expectations and maintaining trust. People may understand if you are honest and empathetic about your shortcomings.

Final thoughts

Payroll management, while complex, is a manageable challenge with the proper knowledge. You can ensure a seamless process by avoiding the mistakes above. You’ll also need to train your human resources staff on these issues.

As long as everyone involved is aware of important stipulations and understands how to legally manage payroll, you can avoid many — if not all — of these mistakes. You can improve your chances even more by using a reputable payroll system (like Gusto) or a payroll service (like a PEO).

Of course, the right solution depends on your needs and available resources, so take the time to consider your options and how they might benefit your business.

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