Paying your employees is important, but so is payroll reconciliation.
This payroll process might sound groan-worthy, but it helps with everything from preparing for taxes to monitoring your business expenses—not to mention ensuring that you pay your employees correctly.
For example, imagine that your employee’s paycheck was supposed to be $800, but you mistakenly gave them a check for $950 instead. Or maybe you messed things up in the opposite direction and underpaid your employee.
Either way, you have a big mess on your hands—and it’s proof that the payroll reconciliation process is an important part of managing payroll. Read through this guide to learn more about payroll reconciliation and how to reconcile payroll in 6 easy steps.
How payroll reconciliation works
Payroll reconciliation compares your payroll register with the amount of money you’re paying your employees to ensure they match. You're essentially double-checking your math to ensure you pay your employees correctly.
Payroll reconciliation should happen frequently, including:
- Every pay period before you cut employee checks—ideally, at least two days before your payday
- Quarterly when you submit Form 941 with your quarterly federal tax return
- Annually during tax time when you confirm that your payroll data matches each employee’s Form W-2
While payroll reconciliation might not be your favorite small business task, it’s important to do regularly so that you can:
- Pay employees correctly: According to LendingClub, 60% of Americans live paycheck to paycheck, making it crucial that you pay your employees correctly and on time.
- Avoid fines and penalties: Making mistakes with payroll not only destroys morale, it can also lead to penalties from the IRS.
- Keep accurate payroll records: Failing to reconcile payroll means your books and general ledger can be outdated and incorrect. This causes major headaches and hassles come tax time—plus the potential for more penalties.
Keep in mind that payroll expenses are one of the biggest costs that small business owners need to cover, making it crucial that you verify your numbers are correct.
How to reconcile payroll in 6 steps
You’re sold on the importance of the payroll reconciliation process, but knowing how to do it is an entirely separate challenge. Before you get started, you’ll want to make sure you have the following within reach:
- Your payroll register: To get all of the payroll data you need
- Employee time cards or time sheets: To get hours worked for that specific payroll period
- Your general ledger: To record wages and deductions and maintain accurate financial records
Have those ready to go? Now we can get into the specific payroll reconciliation steps.
1. Check your payroll register
Your payroll register lists all of the details about an employee’s payroll during a pay period. It should include basic information about the employee, including:
- Name
- Birthdate
- Social security number
- Employee number
In addition to those basic details, your payroll register should also record all of the payroll activity from each pay period, including:
- Hours worked
- Pay rate
- Pay date
- Regular hours
- Overtime hours
- Federal, local, and state income taxes
- Employee withholding for social security and Medicare (FICA taxes)
- Other payroll deductions (such as health insurance, retirement plans, wage garnishments, etc.)
- Gross pay
- Net pay
You’ll need to start the payroll reconciliation process by ensuring that all of this information is correct.
For example, did an employee recently change their payroll withholding status or number of allowances? You'll need to update that in your payroll register. Did you bring on a new employee? Remember to list that on your payroll register, too.
You should also double-check your math by confirming that an employee’s gross pay on your payroll register equals their pay rate multiplied by the total number of hours worked.
2. Confirm employee time cards
When reconciling payroll for a specific pay period, you’ll need to look at your employee’s time cards or timesheets for that span of time. Check to see if their hours are entered correctly and confirm the hours on their timesheet match what’s in your payroll register.
Keep in mind that you’ll also need to account for:
- Paid time off
- Unpaid time off
- Vacation time
- Sick days
- Overtime
- Holidays
All of those will impact the amount of your employee’s paycheck for that pay period. Note that this step is far less tedious and time-consuming if you use time tracking software instead of paper timesheets and time cards.
3. Check pay rates
Now you know how many hours you need to compensate an employee for during that payroll period. It’s time to determine the other half of the equation by figuring out what pay rate you should multiply that number by.
Turn your attention to only the pay rates printed on your payroll register. Are those numbers still current?
For example, maybe an employee recently received a raise. You’ll need to update their pay rate on your payroll register. Or, perhaps you changed your overtime rate. You will also need to reflect that on the register.
This step is crucial, as you’ll use these pay rates to determine your employee’s gross wages. If this isn’t correct, your entire payroll will be off.
4. Confirm paycheck deductions
You know that you can’t just multiply the hours worked in that pay period by the employee’s pay rate and cut a check for that amount. You need to ensure that you’re withholding the correct amount from their paychecks.
At a minimum, you’ll need to withhold the following from your employee’s paycheck:
- Social Security
- Medicare
- Federal income tax
- State income tax (if applicable)
However, you could have other deductions from their paycheck, including but certainly not limited to:
- Local taxes
- Health insurance
- Retirement plans
- Workers’ compensation insurance
- Wage garnishments for child support or another debt
Again, all of this should be recorded and up-to-date in your payroll register. But, if you have doubts about the accuracy of that information, check your employee’s Form W-4 to confirm their withholding amounts.
Deductions should be reported individually rather than as a lump sum. That helps you double-check and is also important when you need to file your small business taxes.
5. Record in general ledger
Whenever you run payroll, you must also record it in your business’s general ledger. These are called payroll journal entries or ledger entries. You might hear your general ledger referred to as your business’ “books,” as it’s where you’ll keep records of your financial data.
Record every single financial transaction in your general ledger, and split transactions into the following categories:
- Assets
- Liabilities (both employee liabilities and employer liabilities)
- Owners’ equity
- Revenues
- Expenses
You’ll record total wages paid to your employees as a debit, and record deductions as a credit. This is another process that’s more straightforward and streamlined with accounting software or payroll services. That will eliminate a lot of manual effort and reduce human error.
6. Submit payroll
You’ve completed all necessary double-checking and recordkeeping. Now you’re ready to print your employees’ paychecks or make their direct deposits on payday.
You’ll also need to deposit the federal income tax you withheld, as well as the employer and employee share of Social Security and Medicare taxes (known as FICA taxes) to the IRS.
You’ll submit these payroll taxes either on a monthly or semi-weekly schedule. You should have determined which deposit schedule you planned to use at the beginning of each calendar year. Additionally, submit your payroll tax reports via Form 941 quarterly.
Next steps for streamlining your payroll process
Ultimately, payroll reconciliation isn’t nearly as big of a burden as what happens if you don’t reconcile your payroll. To help automate the payroll process and ensure you pay your employees correctly, consider using payroll software to save time and help reduce human error.
