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How To Avoid The Five Biggest Payroll Mistakes Small Businesses Make

How To Avoid The Five Biggest Payroll Mistakes Small Businesses Make


As a small business owner, you’ve got a lot on your plate. There are so many aspects to running a business and you’re taking care of most of them on your own.

Sometimes it can be hard to know where your priorities should lay.

Unfortunately, payroll is shoved to the bottom of the list more often than it should be. You understand necessary it is, but there’s just so much to know and learn that it can be intimidating.

That doesn’t change the fact that out of all the business aspects, payroll is the most important. Your employees depend on it. And, just as importantly, your reputation depends on it.

It doesn’t have to be intimidating, though! There are plenty of resources available out there to help you along. It’s just up to you to ensure you’ve put the proper processes in place to get it done.


Misclassification of Employees


The proper classification of workers is an issue receiving increased attention since the Affordable Care Act. That’s because the ACA imposed penalties for not providing quality and affordable coverage to employees. This means both state and federal agencies are focused more on enforcement than ever before.

In fact, in 2015, the Department of Labor (DOL) found that about 75 percent of employers misclassified workers.

Over the last decade, it has become more popular for businesses to hire non-conventional talent. No longer do businesses rely on full-time employees alone. Instead, they’re diversifying their workforces by hiring independent contractors, consultants, freelancers, and part-timers.

This is especially true for small businesses because of three specific benefits that these types of positions offer:

  • Labor costs savings
  • Reduced liability
  • Flexibility in hiring/firing

These benefits may make hiring non-conventional talent sound like a great option for your business. But, it’s important to understand and avoid a big payroll risk that comes along with it: misclassification of employees.

Misclassification of workers involves labeling workers as independent contractors instead of employees.

It’s not uncommon for businesses to intentionally misclassify their employees as contractors. By doing so, the business avoids paying taxes and benefits for those employees.

However, many small businesses unintentionally do wrong by not taking the correct measures to ensure compliance. As a small business takes on more diversified workers, it can be increasingly difficult to keep up with changing labor and tax laws.

What’s at stake

By not taking the correct measures to ensure compliance, your small business is at risk for paying hefty fines. Those fines can include:

  • Your share of the payroll taxes
  • The employee’s share of the payroll taxes
  • Penalty and interest charges

How to avoid this mistake

The only way to ensure your company stays compliant is to follow the guidelines set forth by the Internal Revenue Service (IRS). The best way to do that is to consult a tax expert.

If you use a payroll service, reach out to them to see what kind of resources they have available. If you don’t use a payroll service, we highly recommend that you seek out one that offers payroll tax compliance services.

Look for a company that is well-versed in the IRS guidelines and has solid processes in place necessary for ensuring compliance.

What if you’ve already made the mistake?

If you’ve already made the mistake of misclassifying your employees as independent contractors, it’s important that you alert the IRS right away.

The IRS offers partial relief to those employers who reclassify their workers correctly through the Voluntary Classification Settlement Program.


Avoid Business MistakesAccording to resources on the IRS website, employers and employees are responsible for collecting and remitting withholding taxes. However, in most cases, the employer withholds the taxes on behalf of their employees.

Taxes are one of the most complicated aspects of payroll. Since deductions can be mandatory or voluntary, there’s a lot of potential for slip-ups in the withholding process.

It’s crucial that businesses get two things right:

  1. How much you must pay in taxes
  2. How much you must withhold from your employees’ paychecks

More small businesses get into trouble with the IRS over payroll taxes than any other type of tax. It’s no surprise since it’s large source of government revenue.

Misclassification of employees is a common way small businesses screw up their withholding. But, it isn’t the only way.

Small businesses oftentimes rely on their human resources (HR) department to make tax decisions for payroll. Those that don’t have the resources necessary to learn and implement proper tax guidelines risk making other withholding mistakes, like:

  • Failure to withhold federal and state taxes
  • Inaccurate calculation of pre-tax and post-tax deductions
  • Making incorrect deductions from exempt employee’s salaries
  • Excluding taxable fringe benefits like gift cards, awards, and bonuses
  • Excluding specific expense reimbursements from the employee’s taxable wages
  • Issuing incorrect W-2 forms

What’s at stake

Depending on the withholding mistake, your business could be responsible for paying some serious penalties or fines.

  • Up to 15 percent penalty for under-withheld amount
  • As much as 100 percent penalty if your mistake is deemed willful


The steep penalties aren’t the only thing you have to worry about. You could also become suspect to grueling government audits.


And, aside from governmental penalties, making any of the above-mentioned withholding mistakes can wreak havoc on your payroll records. You could be left with incomplete or incorrect records that cost a lot of time and resources to fix.


How to avoid this mistake

The best way to avoid payroll withholding mistakes is to familiarize yourself, or make sure your HR team is familiar with, state and federal tax laws.


If you don’t have the time or resources to ensure someone in your company is well-versed enough in tax law to make the right choices, we recommend consulting an expert.


Reach out to your payroll services or human capital management provider to them to see what kind of resources they have available. If you don’t use this type of service, we highly recommend that you seek out one that offers payroll tax compliance services.

Look for a company that is well-versed in the IRS guidelines and has solid processes in place necessary for ensuring compliance.

What if you’ve already made the mistake?

If you’ve already made any of the above-mention withholding mistakes, make sure to contact the appropriate agencies right away to correct them.

The longer you wait, the costlier it will be.


Payroll Taxes

Since the ACA was passed, the tax filing process has become extremely detailed for employers. With so many different procedures required by the IRS for withholding, payment, and filing, it can be hard for businesses to remember it all.

There are two reoccurring deadlines that are most important for businesses to keep in mind. There’s a biweekly or monthly deadline set forth by the IRS to deposit both your withholding taxes and your share of taxes. And, there are quarterly and annual returns that you must file with your W-2s.

When businesses miss tax deadlines, it’s usually because of one of three reasons:

  • Forgetting to set reminders
  • Being unaware of the rules
  • Having an unorganized system

While larger companies usually have payroll professionals or accountants on staff, small businesses oftentimes have smaller budgets. With smaller budgets is can be hard to afford the appropriate staff members with the know-how necessary to ensure things like this get done.

What’s at stake

Missing a tax deadline can result in penalties between 5 and 12 percent of the money you owe. It’s not just money you could be missing out on though. Missing a deadline can throw you behind enough that it will be difficult to catch up.

How to avoid this mistake

To avoid missing tax deadlines, it’s very important that you understand what it takes to submit your taxes.

It’s not enough to just know when the deadlines are. You also need to know what type of documents are required and what’s the process of submitting them.

For example, you may be required to use the Electronic Federal Tax Payment System (EFTPS) to deposit your taxes and documents. However, you’re required to register for the EFTPS before you can use it and the registration process can take several days or more.

Once you understand what’s required of you as an employer, consider creating checklists with accompanying flowcharts that outline the processes. And, don’t forget to update your calendars!

If you’re still worried about submitting the right documents on time, consider using a payroll service. After all, you don’t need an in-office accounting expert to manage your payroll functions. Many payroll services include tax compliance. Look for a provider that automates the process for you.

What if you already made the mistake?

If you’ve missed a tax deadline, make sure to contact the appropriate agency right away. The longer you wait, the higher the penalty you must pay will be.

After you’re caught up, take the time to get some processes into place so you don’t make the same mistake again. Spending the time now to get your ducks in a row will help prevent this mistake from happening again.


Record Keeping

Poor record keeping is common for many small businesses. The most popular form of poor record keeping is data entry mistakes. Data entry mistakes cost companies millions of dollars a year and can result in government penalties.

A common mistake is mismatching names and Social Security numbers. It’s so common in fact that the Social Security Administration established a verification phone number.The TNEV automated telephone application allows employers to verify their employee’s Social Security numbers using a national 800 number.

Other mistakes that result from poor record keeping include forgetting to claim expenses that can be written off and improperly recording employees’ hours.

What’s at stake

Inaccurate records can lead to improper or delayed tax filings. Both scenarios can result in large penalties and fines that will end up costing you a lot of time and money.

How to avoid making the mistake

Maintaining accurate records on a regular basis, whether that be monthly or quarterly, can save you a lot of time as well as money. Have a proper filing system and make sure your staff is aware of it.

Make sure whoever is tasked with onboarding employees is aware how important it is that all the information regarding your workers is completely accurate.

The following information should be double-checked for every employee:

  • Full name
  • Current address
  • Social security number
  • Start date and termination date (if applicable)
  • Date of birth
  • Payroll details: hourly rate or salary amount, overtime, etc.



SAAS Payroll ServicesWe live in a digital world and sometimes we take for granted our dependence on technology. No matter how impressive the cloud can be, things can still go wrong. It’s important that your business has the appropriate backup for when they do.

Consider what would happen if your computers were down for some reason. Would you have a manual backup system for handling your payroll functions? If not, you could risk missing important deadlines or even loosing critical data.

Having a backup for your digital system isn’t the only concern you should have. Many small businesses that have limited staff rely on just one staff member to complete payroll functions. What happens if that person gets sick or requests an extended vacation?

What’s at stake

By not having adequate backup for your data or your staff, you risk losing important information necessary for paying taxes and paying your employees. Not only will you upset your employees if this happens, but you’ll also risk missing important tax deadlines.

How to avoid this mistake

The best way to ensure you have an adequate backup so you can continue to submit your taxes and pay your employees on time is to use a SaaS-based payroll service. Then, backup that cloud service with detailed and methodical in-office record keeping.

Choose a service that combines your payroll, human resources, timeclock, and benefits administration in one database to ensure the proper processes are being used across the board. Having a single data entry point will make it easier to manage data accuracy and increase organizational productivity.

It’s also a good idea to look for a service that is intuitive and easy-to-learn. That way you can train more than one employee on the system to avoid creating a payroll silo.

What if you already made the mistake?

There’s nothing worse than loosing data or falling behind. The best thing to do if your business has suffered a loss from inadequate backup is to learn from your mistakes. Then, take the necessary precautions to avoid making them in the future.


You know the importance of proper payroll procedures. Mess up your payroll and not only are you risking having unhappy workers, you’re also risking your status with state and federal governments.

Knowing what mistakes to expect, how to avoid them and what to do if you make them can help ensure your business runs smoothly.

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