What is Payroll?

A payroll is the total amount of compensation paid to employees, covering the period from one pay day to the next pay day. Thus, the payroll for a company that pays its employees on a weekly basis covers a seven-day period. This compensation amount will likely vary over time, since it may include one-time payments for overtime, bonuses, and so forth. The term also refers to a list of all current employees, along with their standard compensation amounts. Payroll is typically the largest single category of expense in a services firm, and is a major expense in most other organizations.

Payroll Processing

The processing of payroll is usually a standard function of the accounting department. There may be a group of accountants who are specifically assigned to payroll processing on an ongoing basis, or certain payroll activities may be outsourced to a third party that specializes in payroll processing. In the first case, the payroll accountants may be tasked with other activities when they are not in the peak payroll processing periods. In the latter case, the use of a third party to process payroll tends to reduce the spike in payroll labor that would otherwise be experienced by the in-house staff at regular intervals.

What are the Payroll Processing Steps?

The payroll process is a series of steps that organizations go through to calculate, distribute, and report employee compensation accurately and on time. Here is an overview of how it typically works:

Collect employee data. When new employees are hired, HR collects essential details like tax forms (W-4 in the U.S.), bank details for direct deposit, employment contracts, and other pertinent documents. For hourly employees, time-tracking software or punch cards are used to record hours worked. Salaried employees may have their attendance tracked mainly for leave and PTO (paid time off) purposes. Any contributions to health insurance, retirement funds, or other benefits that are deducted from employees’ paychecks are documented here.
Calculate payroll. Gross pay is calculated based on an employee's hourly rate or salary and hours worked, including any overtime, commissions, or bonuses. Federal, state, and local income taxes, Social Security, and Medicare are then deducted. Deductions also include voluntary ones like retirement contributions, health insurance premiums, and garnishments if applicable. This results in a net pay figure for each employee.
Approve payroll. A payroll manager reviews the calculated payroll data for accuracy. This ensures that calculations align with all tax regulations and labor laws.
Disburse pay. For most employees, payroll is deposited directly into their bank accounts. Other options include issuing physical checks or loading funds onto payroll cards. Employees receive a pay stub or earnings statement that details their gross and net pay, hours worked, tax deductions, and any other withholdings.
File tax reports. Employers must file payroll taxes (such as federal income tax, Social Security, Medicare) with government agencies according to specific schedules. At the end of the year, the employer provides each employee with a W-2 form in the U.S. (or the equivalent in other countries) detailing their earnings and deductions for tax purposes.