How to reconcile payroll: A step-by-step process

You know that 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 made a mistake and gave them a check for $950 instead. Now what? Do you ask them to refund the overpayment? Do you apply it to their next check?

Or maybe you messed things up in the opposite direction. Your employee was entitled to a $800 paycheck, but you only gave them $750. Even though it wasn’t intentional, now you’ve underpaid them and could be subject to penalties.

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.

Use the links below to jump to the section that best covers your query, or read end to end for an in-depth overview on the topic.

What is payroll reconciliation?

Payroll reconciliation is when you compare your payroll register with the amount you’re planning to pay out to your employees to confirm those numbers match. The simplest way to think about it is double-checking your math to ensure that you pay your employees correctly.

Payroll reconciliation should happen frequently. You’ll need to do it:

  • Every pay period before you cut employee checks—ideally, at least two days prior to your pay day
  • Quarterly when you submit Form 941 with your quarterly federal tax return
  • Once per year 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 on a regular basis so that you can:

  • Pay employees correctly. A whopping 49% of workers say they would start a search for a new job after experiencing only one or two problems with their paycheck.
  • Avoid fines and penalties. Making mistakes with payroll not only destroys morale, it can also lead to penalties from the Internal Revenue Service (IRS).
  • Keep accurate 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 Failing to reconcile payroll means your books and general ledger can be outdated and incorrect.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 a payroll expense is one of the biggest costs that small business owners need to cover, making up 68% of the average company’s overhead. Needless to say, you want those numbers to be correct.

How to reconcile payroll: A brief overview

You’re sold on the importance of the payroll reconciliation process. But, knowing how to do it is an entirely separate challenge. Let’s start with a high-level overview before we dig into the specifics.

Payroll reconciliation involves looking at your payroll register, confirming that information is correct, and then ensuring that it matches what you’re going to print on your employees’ paychecks or deposit into their accounts.

To tackle this, 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.

6 steps of the payroll reconciliation process

Payroll reconciliation sounds daunting, and it’s yet another thing on your plate as a small business owner. Research from SCORE found that 54% of business owners spend over three hours on payroll every month—with 28% spending over six hours per month.

Fortunately, you can make this process a little more manageable by breaking it down into these six steps.

Step #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 nuts and bolts detail, 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 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 withholding status or number of allowances? That needs to be updated in your payroll register. Did you bring on a new employee? They need to be listed on your payroll register too.

Additionally, you should double-check your math by confirming that an employee’s gross pay on your payroll register is equal to their pay rate multiplied by the total number of hours worked.

Step #2: Confirm employee time cards

When you’re 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 that 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 payroll software, as opposed to paper timesheets and time cards.

Step #3: Check pay rates

Now you know how many hours you need to be compensating 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 be multiplying 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. Their pay rate needs to be updated on your payroll register. Or, perhaps you changed your overtime rate. That should be reflected in your register too.

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.

Step #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, which is what happens in this step.

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 a number of 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 your doubts about the accuracy of that information, check your employee’s Form W-4 to confirm their withholding amounts.

Every single deduction should be reported individually, rather than as a lump sum. That not only helps you double-check, but it’s also important when you need to file your business taxes.

Step #5: Record in general ledger

Whenever you run payroll, you also need to record it in your business’ 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 all of your financial data. Every single financial transaction gets recorded in your general ledger, and transactions are split 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 a lot more straightforward and streamlined if you use accounting software or payroll services. That will eliminate a lot of the manual effort and reduce human error.

Step #6: Submit payroll

You’ve completed all of the necessary double-checking and recordkeeping. Now you’re ready to print your employees’ paychecks or make their direct deposits on pay day.

Keep in mind that 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. Your payroll tax reports are submitted via Form 941 on a quarterly basis.

Payroll reconciliation checklist

Ready to tackle your own payroll reconciliation process? We’ve put together a simple checklist to help you cross your t’s and dot your i’s.

Payroll reconciliation checklist

FAQs about payroll reconciliation

Now you know the ins and outs of the payroll reconciliation process. Here are answers to some more payroll questions.

1. How often should you reconcile payroll?

You should reconcile payroll during each and every pay period, at least two days before pay day. This helps you avoid any delays with employee paychecks. You’ll also reconcile payroll quarterly using Form 941 and annually at year-end when you print your employees’ W-2s.

2. How do I reconcile my 941 to payroll?

Look at your payroll register for a specific quarter. Compare that pay data with what you’ve entered in Form 941 for that given period. Fix any discrepancies.

3. How do you reconcile year-end payroll?

Similarly to reconciling quarterly payroll, look at the annual payroll amounts in your payroll register and compare that with the numbers you reported in all four 941s (one for each quarter). Next, compare your 941s to your W-2 forms and confirm that the respective data matches. If you find discrepancies, make the necessary adjustments.

Avoid headaches and hassles with payroll reconciliation

Ultimately, payroll reconciliation isn’t nearly as big of a burden as what happens if you don’t reconcile your payroll.

The good news is that the process doesn’t need to be cumbersome, especially if you use a payroll service or software. That can automate a lot of the process while simultaneously reducing human error.

While we understand that the last thing you need as a business owner is yet another thing to do, payroll reconciliation is non-negotiable. It helps you maintain adequate records, avoid pesky fines and penalties, and most importantly, pay your employees correctly.

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