Understanding and navigating the process of retro pay

Sep 20, 2023
min read

There’s no way around it – employee compensation is a complex world of regulations and processes that can be difficult for both employees and employers to understand. 

Retro pay (although it sounds pretty groovy) can be a topic that leaves you scratching your head, but it's crucial for both employers and employees to understand, as it plays a significant role in ensuring fair and accurate compensation.

In this blog, we'll explain what retro pay is, dive into the situations where it's usually applied, and go over how to calculate it. So, whether you're an employer trying to get your payroll right or an employee wanting to understand your paycheck, we've got the answers you need. Let’s dive in!

What is retro pay?

Retro pay, short for retroactive pay, is compensation added to an employee’s paycheck to make up for a compensation deficit in a previous pay period. It's important to calculate and distribute retro pay as quickly as possible – not only to stay on the right side of labour laws, but to keep your employees happy!

Retro pay is not just about correcting past payroll errors. It's about maintaining trust and fostering a positive work environment where employees feel fairly compensated for their hard work. As humans, we have an innate desire for recognition, and fair compensation plays a significant role in employees feeling recognized for their work.

When is retro pay usually applied?

Retro pay is typically applied in a variety of situations, all of which involve some form of a discrepancy between the amount an employee was paid and the amount they should be paid.

Miscalculated wages

Sometimes, due to human error or glitches in a company's time-clocking system, an employee's regular wages may be miscalculated. For example, an incorrect hourly rate may have been input into the payroll system, or there may have been a mistake in the recorded number of hours worked. In such cases, retro pay is used to correct the discrepancy and ensure the employee receives the correct amount for their work.

Miscalculated overtime earnings

Overtime earnings are another common area where miscalculations can occur. This could be due to incorrect overtime rates being applied or errors in calculating the number of overtime hours worked. In these cases, retro pay makes up the difference.

Shift premiums

Shift premiums are additional pay given to employees who work less desirable shifts, such as night shifts or weekends. If these premiums are not correctly calculated or applied, the employee may be owed retro pay to compensate for the discrepancy.

Workplace discrimination

While unfortunate, there can be cases where an employee has been paid less due to discriminatory practices. When this happens, retro pay is used to rectify the situation and ensure the employee is paid fairly for their work.

Multiple pay rates for different positions

Some employees may work in multiple positions within the same company, each with a different pay rate. If the payroll system does not correctly apply these different rates, the employee may be underpaid and would be owed retro pay.

Commissions and bonuses

Commissions and bonuses can sometimes be miscalculated or not paid out when they should be. In these cases, retro pay is used to ensure the employee receives the correct earned amount.

In all these situations, the common thread is that the employee wasn’t paid the correct amount for their work. Retro pay is used to correct these errors and ensure that employees receive the right compensation. As an employer, it's crucial that you regularly audit your payroll systems to identify and rectify such errors, maintaining trust and satisfaction among your employees.

How do I calculate retro pay?

Here's a more detailed look at the factors to consider and the steps involved in calculating retro pay.

Compensation type: Hourly or salaried?

The first factor to consider when calculating retro pay is the type of compensation your employee receives. Are they paid hourly or do they receive a fixed salary?

For hourly employees, you'll need to determine the correct hourly rate and the number of hours worked. For salaried employees, you'll need to determine their salary and the number of pay periods affected.

Overtime: Is the employee exempt from overtime?

Another important factor to consider is whether your employee is exempt from overtime. Non-exempt employees are entitled to overtime pay for hours worked beyond the standard workweek, typically 40 hours. If your employee has worked overtime and this wasn't correctly factored into their pay, they may be owed retro pay.

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, factoring in all overtime and pay differentials.

Calculating the total amount for retro pay

Once you've considered the factors above, you can calculate the total amount for retro pay. This involves calculating the difference between what the employee received and what they should have received. Be sure to factor in all overtime and pay differentials.

For example, if an hourly employee was paid $15 per hour instead of their correct rate of $20 per hour for a total of 40 hours in a pay period, the retro pay would be calculated as follows: ($20 - $15) * 40 = $200.

Distributing retro pay

Most often, retro pay is calculated manually and added to the next pay period as miscellaneous income. This means it's added to the employee's regular paycheck, rather than issuing a separate check or making changes to the pay rate for a single paycheck. This typically causes less headaches and is more efficient for payroll processing. (Or you could be completely headache-free by letting our payroll experts manage these processes for you through Managed Payroll!)

Retro pay vs. Back pay

Back pay may sound like another way to say retro pay, but they're actually different concepts. 

Retro pay is used as a correction when you pay an employee less than they should have earned. Back pay corrects any type of missed wages. It refers to any wages you owe your employees when you don’t pay them at all. Both are crucial for employee satisfaction and to ensure you adhere to labour laws.

Examples of situations where you might owe back pay include:

  • Unpaid wages or bonuses
  • Wages for overtime
  • Commission

Legal requirements and regulations surrounding retro pay

There are legal requirements that should be met to claim retro pay. Employers need to ensure that these are reflected in payroll to avoid any legal complications.

Labour laws and retro pay

Labour laws, both at the federal and provincial level, often dictate the rules surrounding retro pay. These laws specify when and how much retro pay an employee should receive if they have been underpaid. 

For instance, in Ontario, the Employment Standards Act, 2000 (ESA) requires employers to pay employees for all hours worked, including overtime. If an employee has been underpaid, the employer is legally obligated to make up the difference through retro pay.

Payroll accounting and retro pay

From an accounting perspective, it's important to accurately record retro pay in your payroll system. This ensures that all employee earnings are correctly reported for tax purposes. It also provides a clear record of compensation, which can be crucial in the event of a labour dispute or audit.

Timeliness of retro pay

The timeliness of retro pay is also a legal consideration. Once a payroll error has been identified, employers are typically required to correct the error and issue the retro pay as soon as possible. Delaying retro pay can lead to penalties and interest charges.

Communication of retro pay

Employers are also legally required to communicate with employees about retro pay. This includes informing the employee about the error, explaining how the retro pay was calculated, and when it will be paid. Transparency in this process is key to maintaining trust with your employees and avoiding potential legal issues.

Do more with Humi

Understanding retro pay is essential for both employers and employees. It ensures fair compensation and maintains trust within the workplace. 

At Humi, we're all about making these processes as smooth and understandable as possible. Talk to someone about our Managed Payroll offering today!

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