Payroll Audits Made Easy: What Even Is a Payroll Audit?

Let’s face it: No one ever likes to hear the word “audit,” let alone fully understands this concept.  It immediately conjures up images of unpleasant meetings, fines, penalties, call waiting, and other negative connotations, either real or imagined. (When you really think about it, “audit” is right up there with “root canal” in terms of concepts that suffer from a bad reputation – and represent things most people would like to avoid.) 

Yet, not all audits are the same.

For example, payroll audits are nothing like those IRS audits people tend to picture. Payroll audits are a normal business process that allows companies to verify that their payroll data is accurate. They allow companies to verify that they’re paying each employee the right salary and also managing payroll deductions and withholdings correctly. 

Payroll audits also lead to other important benefits: businesses can avoid fines by incorrectly paying federal and state taxes, make sure their employees are being paid correctly, prevent payroll fraud, and improve their compliance with employment laws and regulations. 

Common challenges associated with payroll audits

Payroll audits can go wrong when businesses overlook key compliance requirements, leading to costly errors and penalties. Common pitfalls include misclassifying employees as independent contractors, failing to track overtime correctly, and neglecting to update payroll records with changes in tax laws or employee status. Even small miscalculations can trigger discrepancies that, if left unaddressed, may result in fines or legal disputes.

Another major issue is poor record-keeping. Inaccurate or missing payroll documentation, such as timesheets, tax filings, or benefits deductions, can create red flags during an audit. Additionally, relying on outdated payroll systems or manual processes increases the risk of human error and data inconsistencies. 

Best practices for successful payroll audits

Still, if you’ve never conducted a payroll audit before, the entire process can seem intimidating and may initially produce far more questions than answers:

• Where do I get started?

• What type of information should I be looking at?  

• How can I make sure our payroll audits are successful?

All of these questions are natural and understandable for those going through the process for the first time. 

Yet by following a few best practices, you can make sure your payroll audit is well designed, thorough, and delivers the right results for your business. 

Let’s take a closer look at these best practices in the context of these questions.

Where do I get started?

• Define the process. Start by defining what you hope to achieve with your payroll audit. This can include specific goals such as uncovering errors or discrepancies, reducing costs, improving compliance with labor laws – or all of the above.

• Review your specific policies and procedures. As you begin the process, you should thoroughly review all aspects of your current payroll process. This includes how you collect employees’ time, how you calculate and apply overtime and other payroll rules, and how you manage benefits deductions. A better understanding of this process helps ensure alignment between what is legally required and your current approach.  

What type of information should I be looking at?

• Verify all employee data. Treat this as an opportunity to make sure all employee records are accurate and fully up to date. In addition to looking at financial data – salary details, tax withholdings, and benefits deductions – you should also make sure employees’ names, addresses, and job titles are correct.

• Examine your current pay rates and/or overtime rates. Make sure pay rates are correct – both in setting them general and confirming them in employees’ salary records. If your company offers overtime, you should also make sure overtime hours are accurately calculated and compensated.

• Don’t forget paid time off (PTO). In reviewing all employees’ PTO, make sure that they’ve been entered correctly. This includes categorizing them by vacation time, personal days, sick days, parental leave, and even bereavement leave.

What else can we do to make sure our payroll audits are successful?

• Reconcile payroll reports. It is important to match payroll information and registers to bank statements, tax forms, and general ledger entries. This gives you the total visibility you need to identify and resolve any discrepancies or even potential fraud.

• Document and report findings: Don’t overlook this final step. Record your audit results as part of your official documentation. You can also use this step to objectively assess how your audit went and provide actionable recommendations for improvements in the future.

By following these steps and best practices, your business can make sure that your payroll audits are thorough, accurate, and effective. A well-executed audit not only minimizes errors but also improves internal processes and compliance results. 

Transform Payroll Audits from a Burden to a Business Opportunity

If all of this seems intimidating, we get it! DianaHR is here to help support your critical HR and payroll processes, and we can help you manage payroll audits, too. With DianaHR, you can make sure you’re paying employees correctly, make compliance efforts easier and more effective, and even contribute to happier employees.

To know more about simplifying payroll audits, explore DianaHR's managed payroll services – payroll experts on call when you need them the most.

Frequently Asked Questions (FAQs)

What is a payroll audit?

Payroll audits are a normal business process that allows companies to verify that their payroll data is accurate.

What are the benefits of payroll audits?

Payroll audits contribute to a wide range of benefits. This includes reducing errors, improving compliance, increasing the accuracy of employee benefits data, and even making employees happier knowing that they’re getting paid correctly.

How often should I conduct a payroll audit?

You should conduct a payroll audit at least once per year. However, many companies perform payroll audits twice a year or even quarterly to minimize the impact of any errors they may have missed in between these timeframes. 

What if we can’t conduct payroll audits? Are there other options or services to assist?

Many small companies simply don’t have employees, headcount, or other resources to perform payroll audits. There are many companies who can provide this as part of their service offering. For example, DianaHR offers expert outsourced HR services for small businesses, including payroll audits and related services.