HR Payroll Compliance: A Complete Guide for Small Businesses

HR payroll compliance refers to following federal, state, and local laws regarding paying employees and providing legally mandated benefits. Small businesses that want to prosper and ensure longevity need to adhere to these rules to foster positive work environments and avoid paying significant fines.

This article explores the key concepts you need to be aware of when it comes to payroll compliance. You’ll learn exactly what it is and why it matters, as well as what the most relevant laws that govern it are, and what the risks of not complying can be. Without further ado, let’s jump in!

Key Takeaways

• HR payroll compliance ensures that businesses pay their employees accurately and on time, building their trust and avoiding legal penalties.
• Key laws and regulations to be aware of would be FLSA, FICA, ACA, FMLA, and state payroll laws.
• Some of the biggest risks of payroll non-compliance could be financial penalties, legal consequences, operational disruption, reputational damage, and high turnover.
• Most common compliance mistakes include employee misclassification, incorrect tax withholding, and poor record-keeping.
• The best strategies to ensure payroll compliance are to stay informed on the latest changes, use proven systems and software, conduct periodic internal audits, maintain organized records, and establish clear policies.

What Is HR Payroll Compliance, and Why Does It Matter?

HR payroll compliance ensures a company adheres to laws and regulations that govern employee compensation. It is a vital aspect of business operations, which confirms that employees’ salaries are calculated and distributed accurately.

In essence, legal payroll compliance is the employer's responsibility. This is particularly prominent in small businesses, where they take on most, if not all, responsibilities of running an enterprise.

In larger corporations with different departments and a more traditional business structure, this is a job for a dedicated HR professional or team. Additionally, this responsibility can also be delegated to a third party outside the company and handled through an external payroll service.

Still, regardless of the size of the company and the person or team in charge of the payroll, the legal obligation ultimately falls upon the employer.

Ensuring HR payroll compliance matters because it helps you:

#1. Avoid Legal Penalties

One of the biggest reasons for ensuring HR payroll compliance as an employer is to avoid hefty legal penalties. Several government agencies, including the Internal Revenue Service (IRS) and the Department of Labor (DOL), can audit businesses and have the authority to impose fines for non-compliance.

The penalties can be imposed for anything from improperly calculating payroll and making incorrect deductions to filing payroll taxes late. In some instances, non-compliance and violation of regulatory laws can lead to criminal charges, which can be detrimental to businesses and their owners. Even worse, this may result in a bad reputation long after they’ve been resolved.

#2. Make Accurate Payments

By adhering to HR payroll compliance, you’ll always give employees accurate payments. This is especially important when there are bonuses (like overtime pay and holiday pay) and payroll deductions(like taxes, benefits, and other contributions) to account for and calculate.

Needless to say, giving employees the correct wages is critical to running a successful business and avoiding legal issues.

#3. Builds Employee Trust

Giving employees accurate paychecks on time is mandatory to earn their trust and improve their satisfaction. Those who are confident that they will always receive their full salary on a due date will feel more secure in their role and approach their work with higher morale and engagement.

This will result in increased employee productivity, quality, and overall output. Moreover, built trust results in improved employee retention, which saves money in the long run as employers don’t have to spend time and resources to find, hire, and onboard new staff.

#4. Improves Record-Keeping

Complying with payroll laws and regulations will also help your business maintain clean and accurate payroll records. This will increase the operational efficiency of your enterprise and simplify various complex processes.

For instance, having detailed payroll records that you can easily browse and access at any point makes filing taxes quick and straightforward. Moreover, it can make it easy to respond to any questions from your employees and give them relevant documentation. Plus, it is essential in payroll audit preparation.

5 Key Payroll Compliance Laws and Regulations

Here are the most important payroll compliance laws and regulations you need to be familiar with to ensure smooth operations and avoid fines:

#1. Fair Labor Standards Act (FLSA)

The Fair Labor Standards Act (FLSA) governs the following payroll aspects:

• Minimum wage. The FLSA governs the minimum rate per hour, which is currently $7.25. If state laws mandate a higher minimum wage, employees are entitled to that amount.

• Overtime. Working overtime entails the bonus pay nonexempt employees receive when working more than 40 hours per week. For every hour after the initial 40, the rate should be at least 1.5 times the regular pay rate.

• Tip regulations. In certain tip-oriented lines of business, employers can take tips as partial credit against minimum wage for employees.

• Hours worked. The FLSA regulates what is considered work hours and when employers can expect employees to do the job.

• Recordkeeping. Employers are required to keep the mandatory records, including employee time and pay documents.

• Child labor. Minors are protected from working jobs that can harm their health or impair their educational careers.

#2. Federal Insurance Contributions Act (FICA)

The Federal Insurance Contributions Act (FICA) mandates that employers withhold a part of employees’ salaries as Social Security and Medicare taxes. Both the employer and employee have to pay their part of this tax.

The tax rate for Social Security amounts to 6.2% of the employee’s earnings per party, or 12.4% of the employee’s taxable wage in total. However, the maximum amount of earnings to which the rate is applied is $176,100.

On the other hand, the Medicare tax rate is 1.45% for the employer and the employee, totaling 2.9% of the employee’s taxable wage. An additional 0.9% Medicare tax is added when an employee makes more than $200,000 ($125,000 for married filing separately and $250,000 for married filing jointly).

#3. Affordable Care Act (ACA)

The main goal of the Affordable Care Act (ACA) is to make healthcare more affordable and accessible to everyone. This act mainly affects Applicable Large Employers (ALEs), which are employers who have 50 or more full-time equivalent employees (FTEs). In this case, employers typically must provide employees with affordable health insurance.

While smaller businesses aren’t subject to this rule, they can be eligible for the Small Business Health Care Tax Credit. As long as they have fewer than 25 FTEs with an average salary of $56,000 per year or below, employers can receive up to 50% credit of the costs they pay for employees’ premiums.

#4. Family and Medical Leave Act (FMLA)

The Family and Medical Leave Act (FMLA) applies to businesses with more than 50 employees working for more than 20 workweeks within 75 miles of the specified location. Employees in these companies are entitled to up to 12 weeks of unpaid leave for family or medical reasons, during which their position is protected.

The reasons for leave can include anything from the birth of a newborn and care for a sick family member to not being able to work due to a specific health condition.

#5. State Payroll Laws

State payroll laws vary between countries and can be stricter or come with more rules compared to federal regulations. For example, while the federal minimum wage is $7.25, the number is much higher in some countries (e.g., $15.00 in Illinois or Delaware, $16.35 in Connecticut, and $16.50 in California).

Some additional discrepancies to keep an eye on include different overtime rates and rules, pay frequency requirements, regulations regarding wage deductions and garnishments, etc. Some states mandate additional benefits, like disability insurance or paid sick and family leave.

Risks of Payroll Non-Compliance

There are numerous risks for payroll non-compliance, which can result in financial, legal, and operational consequences. Some of the key risks to be aware of are:

• Financial penalties. This is one of the most direct risks of payroll non-compliance. Mistakes in payroll tax filing, calculating, or processing can lead to considerable fines from relevant government authorities. Some of the most common IRS penalties are due to failure to file relevant documentation, pay taxes, and for underpaying employees.

• Legal consequences. Apart from monetary penalties, businesses that fail to comply with payroll regulations can face disputes and lawsuits. Common lawsuits include those over miscalculated wages, unpaid overtime, or failure to comply with employee classification rules. Severe cases can even result in criminal charges.

• Operational disruption. Dealing with HR payroll non-compliance requires time and resources, which you could be using to grow your business. Diverting your efforts can result in reduced operational efficiency, stagnation, and missed opportunities, which can be extremely costly in the long run.

• Reputational damage. Businesses that consistently make payroll errors and fail to follow payroll processing guidelines will develop a bad reputation among employees and customers. This can lead to a reduced customer base, fewer opportunities to grow and make revenue, and increased employee dissatisfaction.

• High turnover. Inaccurate or late paychecks and mistakes in tax filing and withholding will erode employee confidence and motivation, resulting in a high turnover rate. Companies that fail to comply with payroll regulations have a harder time attracting and retaining talent and often have to spend more to hire new staff.

3 Common HR Payroll Compliance Mistakes

Now that we’ve seen the risks of non-compliance with payroll regulation, wage and hour laws, and other legal requirements, let’s see what the most common mistakes businesses make are.

#1. Misclassifying Employees

Employee misclassification is one of the most common mistakes businesses make. This is typically done by mixing up independent contractors and employees. By labeling their employees as independent contractors (also known as 1099 workers), employers avoid paying payroll tax and benefits.

Another common misclassification occurs between non-exempt and exempt employees. Since exempt employees are not qualified for overtime pay, employers can avoid giving them higher paychecks.

Any type of misclassification can result in financial and legal consequences (e.g., fines and backpay) that increase in severity the greater the violation.

#2. Incorrect Tax Withholding

Incorrect tax withholding is another big and common mistake that can result in penalties with interest. Miscalculating federal, state, and local income taxes, as well as Social Security and Medicare taxes, can happen due to human error, outdated W-4 forms, and even failure to stay updated with the latest changes in regulations.

To ensure payroll tax compliance, businesses need to have a robust system in place, preferably software-automated and with a comprehensive payroll compliance checklist. Moreover, it’s vital to regularly review the filing processes and payroll administration to make sure that everything is up to date and accurate.

#3. Poor Record-Keeping

Poor record-keeping can lead to problems during government audits and with internal organization.

The Wage and Hour Division of the Department of Labor sets strict payroll recordkeeping requirements for businesses that employ non-exempt workers. They detail basic records, like the employee’s name and social security number, hours worked each day, regular hourly pay rate, total wages paid, etc.

These records must also be kept for at least three years, as a DOL representative can ask employers to make extensions, computations, and transcriptions. Poor record-keeping complicates the preparation of relevant audit documentation and can even result in fines when employers can’t provide the necessary records.

HR Payroll Compliance Best Practices and Strategies

Let’s explore some of the best HR payroll compliance tactics and proactive measures you can take to ensure adherence:

• Stay informed. Rules and regulations frequently change, which is why it’s important to continuously monitor all the relevant federal, state, and local laws. Whenever you’re in doubt, you should consult the official resources and tax experts to make sure that you aren’t making any costly mistakes.

• Use robust systems and reliable software. It’s much easier to adhere to strict payroll reporting standards when you’re using specialized software that automates the process while ensuring accuracy. That way, you’re not only reducing the chances of making a mistake but also saving precious time and resources to use in growing your business.

• Perform periodic payroll audits. Even if you have a bulletproof system in place for HR payroll compliance, you should still review it regularly. This will allow you to spot and correct potential minor errors that might become more significant down the road. Plus, you sometimes must update your process to adhere to the latest regulatory changes.

• Maintain accurate and organized records. You should keep a detailed and organized collection of payroll records for the legally required period (typically at least three years). This includes pay stubs for all employees, all the tax forms you filed, time records, and so on.

• Establish clear procedures and policies. By having robust and well-documented policies regarding HR payroll compliance, you’ll standardize the procedure and maintain accuracy. These policies should encompass every aspect of payroll management and be clearly communicated to everyone in charge of it and to your employees.

How Paystub.org Supports Payroll Compliance

Paystub.org can enhance your payroll compliance and support its management with an assortment of document generators.

For instance, our pay stub generator is a comprehensive solution with user-friendly controls that allows you to create these documents in minutes. The process is simple: you pick a template, input payment, company, and employee information, fill in the earning statement, and check out to download a pay stub.

You can use our Form 1099 generator and Form W-2 generator in the same way to streamline your document-creating and record-keeping efforts. Moreover, we even have an invoice generator you can use to help you get paid for the goods sold or services provided.

Final Thoughts

Maintaining HR payroll compliance can be a daunting task for a small business, especially for new business owners. There are many regulations to adhere to, and mistakes can be costly. That’s why it’s important to have a systematic approach to payroll management.

You should familiarize yourself with the most important laws that govern payroll compliance, and set up a checklist to ensure that you adhere to them. Don’t forget to regularly review your processes for mistakes or changes in regulation. Lastly, you should use specialized software, like the one Paystub.org offers, to simplify document creation and record-keeping.

HR Payroll Compliance FAQ

#1. Should HR be responsible for payroll compliance?

While HR can be in charge of ensuring payroll compliance, the ultimate responsibility falls upon the employer. HR plays an important role in payroll processing and management, but the business owner will most likely be the one suffering legal and financial consequences for non-compliance.

#2. What is payroll system compliance?

Payroll system compliance refers to making sure that the way you process payments to employees in your company complies with all the applicable labor and tax laws in your area. It mostly means ensuring correct payment and tax calculations, as well as proper record-keeping.

#3. How do I determine proper withholding for each employee?

To determine proper withholding for each employee, you should take into account their earnings and the information provided on their Form W-4. The details influencing withholding amounts include filing status, number of withholding allowances claimed, and additional withholding.