Retroactive pay: what it is and what you need to know

Picture this: it’s another bustling day at the office, and an employee approaches you, clutching their paycheck with a concerned look. As they mention an oversight in their past payments, you feel a bead of sweat forming. In moments like these, understanding the concept of retroactive pay is non-negotiable.

So, let’s dive in and demystify this term for you.

What is retroactive pay?

At its core, retroactive pay (or “retro pay” for short) is pretty straightforward. It’s the compensation you owe an employee for work they’ve already completed but were underpaid for.

This can happen for a variety of reasons, ranging from simple clerical errors to more complex issues like backdated promotions. Think of it as a way to correct past paycheck oversights.

Why does retroactive pay exist?

Imagine if you were that employee caught in this situation. You’d want assurance that, even if there’s a hiccup in your paycheck, your company has a mechanism to fix this. Retroactive pay exists primarily for two reasons:

Contractual and legal obligations

Sometimes, an employee’s pay rate changes (due to promotions or agreed raises), but this change doesn’t immediately reflect in their paycheck. Or perhaps new legislation mandates certain payments.

Retro pay ensures you’re up-to-date with all legal obligations – after all, you don’t want to have a lawyer banging on your desk because your company accidentally underpaid an employee a couple of months ago.

Employee morale and trust

Financial stability is paramount for your staff. By ensuring they receive every cent they’re owed, you bolster their trust and morale. You have signed an agreement with them – you pay them for the work they do, and you don’t want that to get misaligned in any way.

Plus, if you’re proactive and tell your employee: “Hey, we noticed that your last two paychecks were actually below what you were supposed to get based on your promotion/raise last month. We’ve gone and fixed that for you, so you’ll see that reflected in your next paycheck at the end of this month.” That sends a powerful message to them that you have their best interests at heart.

When is retroactive pay used?

So, how might you find yourself dealing with retro pay? A few scenarios to consider:

Contractual changes

Let’s say you’ve awarded an employee a raise starting the 10th of the month, but payroll is processed on the 1st. Retro pay comes into play to cover that gap.

Clerical errors

Even in the best systems, mistakes happen. Perhaps someone was inadvertently underpaid; retro pay allows you to square things away.

Overtime corrections

If an employee’s overtime was miscalculated, submitted late, or simply overlooked, retro pay ensures they’re compensated correctly.

However, be cautious. If you’re frequently resorting to retro pay, it could signal deeper systemic issues in your payroll system. And trust us, repeatedly dishing out retro paychecks won’t do wonders for your company’s reputation. It can also be a headache for your friends in Finance.

Pros and cons of retroactive pay

Let’s quickly go over the pros and cons of retro pay, one by one:

Pros:

Fairness: Above all, it demonstrates to your team that you’re committed to honoring your financial commitments.

Boosts morale: Employees trust employers who correct their mistakes.

Legal safeguard: Protect yourself from potential legal repercussions by ensuring everyone gets paid what they’re due.

Cons:

Administrative burden: Handling retro pay can be a paperwork nightmare – especially if it starts piling up.

Financial strain: Large retroactive sums can strain your company’s financial health – and makes it more difficult for the finance department to keep those books balanced.

Potential damage: Relying on retro pay too often can erode trust in your payroll system for existing employees – which can spill over to negative commentary on Glassdoor and other employer review sites.

Retro pay: it’s best to have it and not need it

Being in HR or leading an SMB is no walk in the park. But by ensuring accurate and timely pay, you foster a positive work environment, solidifying employee trust and commitment. So, take a moment to review your payroll systems. Perhaps even consider regular audits. It’s always better to be proactive than retroactive when it comes to pay. The same goes for time off management as well, but that is a topic for another article.

Stay informed, stay proactive, and always prioritize your employees. Because at the end of the day, a company’s greatest asset isn’t its products or services – it’s the people who make it all happen.