10 Most Common Payroll Mistakes (and What They’ll Cost You)


Are you wasting time in your year-end reporting? A study from APQC found that organizations spend anywhere from 15 to 45 days on closing out the year. But it doesn’t have to be that way; you can save considerable time by making sure your procedures are done correctly all year long with forward-thinking processes, especially when it comes to payroll.

Payroll is a critical part of your accounting and reporting, but there are a lot of things that can fall through the cracks — even for the most seasoned payroll professional. That’s why we’ve broken down the ten most common payroll mistakes you should watch out for. By keeping an eye on these areas throughout the entire year, you’ll save time and money and have less to worry about when it comes to year-end reporting. And, above all, you’ll be protecting your employees’ hard-earned money.

The following tips may seem simple, but the importance of payroll goes beyond just ensuring your employees are paid correctly. Proper documentation and withholding practices are essential to the financial well-being of your organization.

Take Pennington County for instance. The county was chosen at random to undergo an IRS examination. The result? Substantial penalties ($87,140.63 to be exact) for mishandling payroll taxes. It’s trickier than it first appears. The penalty is a result of a payroll-tax practice officials believed they were doing correctly.

Employees of Pennington County were receiving 24 paychecks per year— a mid-month draw and a payroll salary minus the draw. Because these employees were receiving paychecks in advance (before the end of the month), taxes should have been applied as a semi-monthly payroll.

The IRS took the stance that the mid-month draw was in fact a paycheck, and it should have had taxes withheld. With this being the determination, taxes were paid late.

If your company is a semi-weekly depositor based on the IRS rules, you are required to make your tax payments after each payroll. The tax due date is based on the date of the paycheck. If you have a check that is dated with a Saturday, Sunday, Monday or Tuesday date, taxes are due Friday. If you have a check that is dated with a Wednesday, Thursday or Friday date, taxes are due the following Wednesday.

The IRS isn’t kidding when it comes to late payments on payroll-tax payments. If your payment is between one and five days late, the IRS charges a penalty of 2%. Deposits made six to 15 days late are charged a 5% penalty. If your payment is more than 16 days late, the IRS will charge a 10% penalty.

The easiest way to avoid a penalty? Pay your withholding tax on time.

Mistake #1: Not getting an employee’s Social Security Number and/or address correct.

An incorrect Social Security Number can cause a misapplication of funds for your Social Security amounts. This results in changes to your W2 and your state unemployment return. An incorrect address will also cause issues for timely filing of W2s, especially if you mail them.

  • The Cost: Not only will you have to amend your W2, but you’ll also have to amend all of your state unemployment returns. If you don’t move quickly to correct this information, you’ll face a $50 penalty for each time you provide incorrect information.

Mistake #2: Using nicknames instead of an employee’s full name.

Do you have an Archie Patrick that goes by Pat? Or a Nancy Jane that goes by Janie? It’s important to make sure you are using your employees’ full legal names for reporting purposes. The Social Security Administration sends out no-match letters for W2s if the name on the W2 does not match the employee’s Social Security card.

  • The Cost: If you get this wrong, you’ll be facing a penalty in the amount of $50 for every form that’s incorrect. In addition, it will cost you valuable time visiting the SSA online portal and submitting the corrected information.

Mistake #3: Not understanding the difference between an employee and an independent contractor.

There’s a big difference between W2 employees and 1099 contractors. Misclassification of employees results in lost benefits for an individual and can cause the individual to pay higher tax for self-employment.

  • The Cost: This is a costly mistake for your company and your employees. Not only will your organization owe back taxes and unemployment taxes, but you’ll also owe any unpaid wages and benefits on top of any state and federal misclassification penalties.

We’ve broken down the differences between 1099 contractors and W2 employees so that you don’t make this mistake.

Mistake #4: Not having a plan in place for pre-tax deductions.

Pre-tax deductions, like health insurance or health savings accounts, are a great benefit to employees. Pre-tax benefits offer substantial savings for both participants and employers. However, before you offer this benefit (sometimes called a cafeteria plan), you need to have a documented plan in place.

  • The Cost: Not establishing a documented plan will mean that your entire plan will have to be set up as an after-tax plan, which is not beneficial to either the employer or the employee. Failing to maintain compliance can mean both hefty penalties and a devastating loss of savings to both the participant and the employer.

Mistake #5: Not knowing your industry and/or entity setup.

Different rules apply to different entities and industries, especially when it comes to filing your payroll returns. For example, agriculture entities file an annual 943 form while construction companies file a quarterly 941 form. The difference also extends into unemployment taxes and how they are applied.

  • The Cost: You will have to spend time filing amended returns and, in some cases, you may end up paying taxes that you’re not actually required to pay.

Mistake #6: Not monitoring Social Security limits.

When using an accounting or payroll software, make sure you’re closely monitoring your software updates. If you’re not, you could see an issue where you over-withhold from an employee and overpay the employer tax.

  • The Cost: Not only will you have to take time to amend your payroll returns and W2 forms, you may also face penalties.

Mistake #7: Not paying attention to Form 941.

The Schedule B and line 12, or part 2 and line 12, on your Form 941 must always match. It’s important to remember that this is the reporting of the liability of taxes on the check date, not the date on which the tax payment that was made.

  • The Cost: If these two lines do not match, you will receive an IRS notice and may have to pay a penalty. Amending this error will take time, but may result in a reduced penalty.

There are a lot of questions about Form 941. We’ve answered them in our FAQ.

Mistake #8: Applying tax payments to the wrong quarter.

Your check date determines what quarter your tax payment is applied to. If you misapply this payment, you will receive letters from the IRS that show over- or underpayments depending on how the payment was misapplied.

  • The Cost: It depends on how long the payments have been misapplied, but correcting this error will almost certainly cost you a significant amount of paperwork and time.

Mistake #9: Recording incorrect information in Box 12.

Box 12 reports your deductions. If you put down the wrong code here, it will change the amount you can contribute. For example, if you put down a Code D for a 401K plan (max per year $19,500) but you actually have a Simple plan, the amount for reporting is incorrect because a Simple plan is Code S (max per year $13,500).

  • The Cost: This mistake will cause you to fail any potential upcoming retirement plan audits. You also may have under- or over-withheld retirement from your employees and your employer match, which is going to take time to fix.

Mistake #10: Not reconciling your payroll returns to the W3.

Your federal and state forms should always match your W3. If this does not happen, you will receive notices to either fix the returns or the W2s.

  • The Cost: Correcting this error involves completing paperwork for both Federal and State agencies, which can be incredibly time-consuming.

The Easiest Way to Avoid These Mistakes? Outsource Your Payroll.

It’s clear to see that failing to maintain proper payroll procedures can cost your organization (and possibly your employees) substantial amounts of both time and money.

It’s important to understand the ins and outs of payroll and have your payroll processes regularly reviewed (and not just by random IRS examination).

How your payroll is reviewed is up to you. You can do payroll completely in house, but you must make sure you are up to date on every changing regulations and are timely with your reporting requirements.

The other option is to outsource your payroll. Reputable payroll agencies take the necessary employment information and use it to file payroll on your behalf, once you’ve approved it. This includes the filing of tax payments and insurances to respective agencies.

These trained professionals can ensure your processes are set up correctly and your withholding is up to standard. That way you can worry less about potential penalties and more about running your business.

Payroll seems simple, so organizations often do it on their own. This can result in a financial blow to both their business and their employees. If you want to ensure that your payroll is always done correctly and that you never miss a deadline, we can help.

Stay current on your favorite topics