Retro Pay
What is retro pay?
Retro pay (short for retroactive pay) is compensation added to an employee’s paycheck to make up for a compensation shortfall in a previous pay period. This differs from back pay, which is compensation that makes up for a pay period where an employee receives no compensation at all.
Calculating retro pay and sending it out as quickly as possible is important to keep employees satisfied while ensuring the company stays on the right side of labor laws.
What are some payroll mistakes that require retro pay?
Most of the time, compensation shortfalls happen when compensation changes aren’t reflected in the following payroll run. If that sounds a bit too confusing, here are a few examples of payroll mistakes that could require retro pay to resolve:
- Overtime. If you forget to multiply overtime hours by 1.5, you could owe a worker pay.
- Shift differentials: Failing to pay an increased rate for hours worked outside an employee’s normally scheduled shift means that you may need to arrange a retroactive payment.
- Commissions: With some accounting methods, a late-paying client may delay funds for paying out commissions, resulting in owed payments.
- Raises: If you fail to adjust an employee’s pay rate after giving them a pay raise, they will require retro pay to amend the owed amount.
Underpayment can cause your staff worry and financial difficulties, but it’s important not to be too hard on yourself if these mistakes are made. Retro pay exists to right these wrongs, so it’s important you understand what it is, when you'd use it, and what procedures you need to follow.
Is retro pay taxed?
Yes, retroactive payments are usually taxable. It’s important to remember that retro pay is treated the same way as regular earnings for the most part, which means it’s impacted by tax deductions like Social Security and Medicare.
Can court rulings require retro pay?
There are situations where an employee can take their employer to court in pursuit of retro pay. These include the following:
- Discrimination: A group of employees receives more compensation compared to another due to their race, gender, age, or other protected status.
- Retaliation: An employer fires an employee because of whistleblowing or as the victim of harassment.
- Breach of contract: An employer fails to pay the employee or contractor the negotiated rate.
- Overtime violations: An employer fails to factor in overtime (a common violation).
- Minimum wage violations: An employer pays employees less than the minimum wage set out in the Fair Labor Standards Act (FLSA), whether on the books or under the table.
How to calculate retro pay
When figuring out retro pay, consider the following:
- Compensation type: Hourly or salaried?
- Overtime: Is the employee exempt from overtime?
- Duration: How many pay periods are affected?
To get a gross figure for retro pay, calculate the difference between what the employee received and what the employee should have received. This should also factor in all overtime and pay differentials.
Retro pay is typically calculated manually and added as miscellaneous income to the next pay period, rather than adding extra hours or making changes to the pay rate for a single paycheck.
Employee withholding choices and employer payroll taxes also apply to retro pay, so employers need to ensure that these are reflected in payroll accounting.