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

As a business owner, paying your employees accurately through your payroll process is essential to success and strong team morale. Equally, ensuring your payroll records are correct is just as critical. 

That’s where payroll reconciliation comes in. This process helps you prepare for taxes, monitor business expenses, and ensure accuracy in your employee payments. As such, it’s a vital part of payroll management.

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

What is payroll reconciliation?

Payroll reconciliation refers to the process of comparing your payroll records with the amounts you plan to pay your employees to ensure everything matches accurately. 

You can think of it as double-checking your calculations to confirm that employees are paid correctly and in line with your records.

In the UK, payroll reconciliation should be carried out regularly. It’s important to review your payroll records every pay period before processing payments via HMRC’s Real Time Information (RTI) system. 

Additionally, at the end of the tax year, you’ll need to submit a final Full Payment Submission (FPS) to HMRC, typically by 5 April, to confirm all payroll details are accurate.

Why is payroll reconciliation important?

While payroll reconciliation might not be your favourite small business task, it’s important to do on a regular basis so that you can:

• Pay employees correctly. This is especially important, as a whopping 21% of workers have changed jobs after being paid late or inaccurately by their employer

• Avoid fines and penalties. Making mistakes with payroll not only destroys morale, it can also lead to an investigation by HMRC or other regulatory bodies, potentially leading to fines or penalties.

• Keep accurate records. Failing to reconcile payroll means your books can be outdated and incorrect.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. In service-based businesses, such as consultancies, payroll can constitute up to 50% of total revenue, as these businesses rely heavily on their employees to generate income.

Needless to say, you want those numbers to be correct.

Payroll reconciliation example

An example of why the payroll reconciliation process is so important is seen in the following scenario:

Imagine one of your employees was meant to be paid £800, but due to an error, they received £950 instead. 

As a payroll manager, you’d have to decide on what your next steps are: should you ask them to return the overpayment, or adjust it against their next pay packet?

Or, consider the reverse scenario: your employee was entitled to £800 but only received £750. While the mistake wasn’t intentional, underpaying an employee could lead to complaints, legal issues, or penalties under UK employment law

Here, payroll reconciliation is essential to avoid errors and ensure your employees are paid correctly and on time.

How to perform payroll reconciliation in six steps

While it might seem daunting to align every detail of your payroll, breaking the process into manageable steps makes it far easier to handle. Here’s how to reconcile payroll, step-by-step:

1. Check Your Payroll Register

Start by reviewing your payroll register, which lists essential details for each employee during a pay period. 

This list will include details such as:

• Name

• National Insurance number

• Employee number

• Hours worked

• Pay rate

• Gross pay and net pay

• Deductions for Income Tax, National Insurance Contributions (NICs), pensions, and other payroll activity

Be sure to double-check all of this information for accuracy. For example, if an employee recently updated their tax code or started contributing to a workplace pension scheme, ensure those changes are reflected in your records. 

2. Confirm Employee Timesheets

Review employee timesheets or time-tracking software to ensure hours worked match your payroll register. 

As part of this, account for:

• Paid and unpaid leave

• Sick pay

• Holiday pay

• Overtime

• Public holidays

Accurate tracking of these factors ensures that employees are compensated correctly and that your payroll calculations are precise.

3. Verify Pay Rates

Ensure the pay rates listed in your payroll register are up to date. If an employee received a pay rise or your overtime rates have changed, update this information. Correct pay rates are essential to calculate gross pay accurately.

4. Confirm Pay Deductions

Check that all deductions from employee pay are accurate and up to date. In the UK, these typically include:

• Income Tax

• National Insurance Contributions (NICs)

• Pension contributions (if applicable under auto-enrolment)

• Student loan repayments

• Wage garnishments (such as child maintenance or court orders)

Use HMRC’s online calculators or payroll software to verify that deductions are accurate. Report deductions individually rather than as a lump sum for easier record-keeping and compliance with HMRC requirements.

5. Record Payroll in Your General Ledger

Every payroll transaction should be recorded in your general ledger. Split entries into categories like:

• Assets

• Liabilities (e.g., deductions owed to HMRC or pension providers)

• Expenses (e.g., wages and employer National Insurance contributions)

For example, total wages paid to employees should be recorded as a debit, while deductions should be recorded as credits. Payroll software can streamline this step and help reduce manual errors.

6. Submit Payroll and Pay Employees

Once everything checks out, you’re ready to pay your employees. You can go ahead and process payslips or direct deposits on payday. 

Additionally, submit PAYE (Pay As You Earn) information to HMRC using your RTI (Real Time Information)-enabled payroll software. This includes:

• The income tax and NICs you withheld

• Employer NICs

• Student loan and pension contributions (where applicable)

Ensure you deposit withheld amounts to HMRC by the appropriate deadlines, either monthly or quarterly, depending on your payment schedule.

Payroll reconciliation checklist

Utilise our handy checklist below to help make the payroll reconciliation process a breeze. 

Top tips for reconciling payroll successfully

Here are some top tips on how you can carry out a successful payroll reconciliation. 

Reconcile on a regular basis

Consistency is the backbone of effective payroll reconciliation. Aim to reconcile your payroll at regular intervals, such as at the end of each pay period, and ideally a few days before payday. 

One of the main benefits of this is to allow you time to identify and correct errors without delaying employee payments.

Beyond regular pay periods, it’s a good idea to schedule additional checks on a monthly, quarterly, and annual basis. These longer-term reviews can help uncover discrepancies that may have gone unnoticed in routine reconciliations or arose during tax filings.

Maintain open communication

There are many moving parts to a payroll system in any sizeable business. As a result, it’s important to maintain regular and open communication between payroll and finance teams for smooth operations. 

In particular, keep all stakeholders informed of payroll changes, tax updates, or any errors that you’ve uncovered. You may choose to set up routine check-ins or establish clear communication channels to share updates and address potential issues. 

Make sure employees are trained in payroll

In order to make sure that you have accurate records, educating employees on how their time entries directly impact payroll calculations is crucial. 

To do this, regular training sessions can help employees understand the importance of correctly recording hours worked, including overtime, and how errors can delay payments or create unnecessary administrative burdens.

If your workplace has a more flexible schedule, clear guidelines and tools for time tracking are even more critical. Provide employees with easy-to-use systems and ensure they are equipped to track non-traditional or split shifts.

Consider independent reviews

Such is the importance of getting payroll right that you may wish to consider adding a second layer of verification. After completing a reconciliation, have another trained team member review the entries and results to make sure everything is correct. 

This extra step provides an additional safeguard against overlooked errors and can catch inconsistencies in complex payroll systems. For organisations with larger or more intricate payroll data, this independent review is especially valuable. 

If you are going down this route, ensure that everyone involved in the review process has the necessary expertise to spot and resolve discrepancies.

Keep thorough documentation

Last but not least, proper documentation is critical to staying compliant and futureproofing any further reconciliations. 

Every step of the reconciliation process should be recorded, including the dates of reviews, the records analysed, what discrepancies you’ve found, and what actions you’ve taken to resolve them.

Organise this information systematically so it can be easily accessed when needed. A robust documentation system for payroll not only demonstrates a commitment to compliance but also provides a clear audit trail that can protect your business in case of tax inquiries or legal disputes.

What to do if payroll discrepancies are found

Mistakes in payroll can be stressful, but they do happen. In such cases, take a methodical approach to the problem and continue to adhere to best payroll practices. 

Start by assigning a dedicated team or individual to investigate and resolve any discrepancies found. This person or group should have strong organisational skills and clear communication abilities to coordinate efforts without disrupting regular payroll operations. 

Whether it’s human error, a system glitch, or something else, it’ll be their job to diagnose the problem and rectify it. 

Whatever the disruption to your payroll operations, keeping your employees informed at regular touchpoints is a great way to maintain the trust of your team. As part of this, offer a clear point of contact for any questions. 

How often should payroll reconciliation be performed?

Payroll reconciliation should be performed regularly for businesses of all types and sizes. Ideally, you’ll want to reconcile at least once per pay period, typically two to three days before issuing paychecks. 

This timing will allow you to identify and correct errors before they lead to issues such as underpayments or miscalculations.

Streamline payroll with Quickbooks

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 an accounting software like QuickBooks. This 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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