When running a business, it’s imperative that employees are paid for the work they complete. 

The time frame between work completion and employee payment is often referred to as accrued payroll. While this accounting process may seem simple, it is actually quite complex and requires careful planning, including maintaining precise financial records, meticulously managing cash flow, and preparing for any additional payroll obligations. 

In this article, we’ll define accrued payroll, explore why it matters, and demonstrate how a deep knowledge of it can support smarter financial planning for your business.

What Is Accrued Payroll?

Accrued payroll, a key element of accrual accounting (an accounting method that records financial transactions when they occur, rather than when cash is exchanged), represents the wages, salaries, and other employee compensation earned during a pay period that has yet to be paid. Understanding payroll accrual accounting is essential for accurate payroll management. This can include base pay, overtime, bonuses, payroll taxes, and benefits (like vacation or sick time). Essentially, accrued payroll represents a company’s payroll liabilities — what is owed to employees for their work but has yet to be disbursed.

From an accounting perspective, accrued payroll is an important concept in accrual accounting, which tracks and records expenses when they are incurred rather than when they are paid. For example, if a company’s pay period ends on the 30th, but employees are paid on the fifth of the following month, the wages earned from the 30th must still be recognized as a liability, even though the payment has not yet been made. This ensures the business's financial records accurately reflect its outstanding obligations and improves budgeting and cash flow management.

In summary, accrued payroll helps businesses track their payroll liabilities in real-time, ensuring they properly account for pending payroll costs and maintain accurate financial statements.

Types of Accrued Payroll

Accrued payroll incorporates much more than just salaries and wages — there are various types of employee compensation that businesses must account for before payday. Here are the several key financials that may be incorporated within accrued payroll.

Salaries and Wages

This refers to the gross pay employees have earned during a pay period, whether salaried or hourly, which hasn't yet been paid. These are the most significant liabilities in accrued payroll and must be tracked accurately until the payment is disbursed.

Bonuses and Commissions

Any performance-based compensation, like bonuses or commissions employees have earned but not yet received, also falls under accrued payroll. These amounts can be tied to individual achievements or company-wide performance metrics and are often paid at the end of a month or year.

Paid Time Off (PTO)

This includes accrued vacation and sick days employees have earned but haven’t yet used. Even if the time off hasn’t been taken, the value of this PTO must be recorded, particularly if an employee leaves the company and is owed payment for unused days.

Payroll Taxes

Businesses must also account for income tax, Social Security, Medicare, and other payroll taxes that have been withheld from employees’ paychecks but have not yet been submitted to the relevant authorities. These are considered part of payroll liabilities.

Employee Benefits

Costs related to employee benefits, such as health insurance premiums, retirement plan contributions, and other perks the company has incurred but not yet paid, are included in accrued payroll. These can also include parental leave or other long-term benefits.

Accrued Payroll vs. Cash Accounting

When it comes to managing your business’s finances, understanding the difference between cash-based and accrual accounting is worthwhile. Both methods track revenues and expenses, but the way they do it can affect how you view your company’s financial health.

Cash-Based Accounting

Cash-based accounting is all about timing. Revenue and expenses are only recorded when cash actually changes hands. For example, if you invoice a client but don’t get paid until next month, that income isn’t recorded until the money is in your account. This method is simple and easy to track, making it a popular choice for small businesses that want a clear picture of their cash flow at any given moment.

Accrual Accounting

Accrual accounting, on the other hand, records income and expenses when they are earned or incurred, regardless of when the money is received or paid. If you provide a service today, you record the income today — even if you won’t see the payment for another month. Likewise, expenses are tracked as soon as they’re incurred, even if the cash hasn’t left your account. This method gives a more comprehensive view of a company’s long-term profitability but requires more detailed bookkeeping.

Key Differences

The major difference between these two methods boils down to timing:

• Cash-based accounting recognizes transactions when the cash is received or spent.
• Accrual accounting records them as soon as the work is done or the expense is owed, giving a fuller, more forward-looking picture of your finances.

Choosing the right accounting method depends on your business’s size, needs, and future growth plans. While cash-based accounting may keep things simple, accrual accounting provides better insight into your long-term financial health, making it the preferred choice for larger businesses or those planning to scale.

How to Calculate Accrued Payroll 

Calculating accrued payroll involves recording and tracking several elements, including hours worked, bonuses, employer contributions, and PTO. Here’s a step-by-step guide to accurately calculate accrued payroll for your business.

1. Identify the Pay Period: First, determine the pay period you’re calculating for, whether it's weekly, biweekly, or monthly. If your employees are paid hourly, gather the number of hours they worked during this period, including any overtime or additional work hours.
2. Calculate Gross Pay: For hourly employees, multiply the number of hours worked by their hourly wage to determine the gross pay. For salaried employees, calculate their gross pay by dividing their annual salary by the number of pay periods in the year. For example, a $60,000 annual salary divided by 52 weeks equals a weekly gross pay of $1,153.85.
3. Add Commissions, Bonuses, and Overtime: Next, account for any extra earnings like commissions, bonuses, or overtime pay. Overtime typically requires an additional wage supplement, so calculate this separately and add it to the gross pay.
4. Factor in Employer Contributions: Don’t forget employer-paid contributions, such as payroll taxes, social security, health insurance premiums, and retirement plan contributions. These amounts, which employers are responsible for, should be added to the total payroll costs.
5. Account for Accrued PTO: Employees earn PTO each pay period, which must be included in the accrued payroll calculation, even if they haven’t taken the time off yet. PTO represents a payroll liability, as it’s owed to the employee.
6. Record the Payroll Accrual: Finally, sum up all components using this formula:

Accrued Payroll = (Hourly wage x hours worked) + (bonuses + commissions + overtime) + (payroll taxes + employer contributions) + (PTO)

Once you've calculated each employee’s accrued payroll, total the amounts to determine the entire payroll liability for the accounting period. Ensure that these calculations are properly recorded in your financial system to maintain compliance and provide a clear audit trail.

Accrued Payroll Calculation Example

Are you curious about how to calculate accrued payroll? Well, let’s consider a scenario where a small business in the service industry pays its employees every two weeks based on hours worked. The company has an employee named Sarah who earns $25 per hour and worked 80 hours during the pay period. During this period, she also earned a $300 commission and a $400 bonus for her performance.

Additionally, Sarah accrued one full day (eight hours) of PTO, and the employer is responsible for $500 in payroll taxes and contributions, including health insurance and retirement benefits.

Here’s how the accrued payroll for Sarah is calculated:

Gross Pay

$25 per hour × 80 hours = $2,000

Commissions and Bonuses

$300 (commission) + $400 (bonus) = $700

Employer Contributions

Payroll taxes, insurance, and retirement contributions = $500

Accrued PTO

$25 per hour × 8 hours = $200

Total Accrued Payroll

$2,000 (gross pay) + $700 (commissions and bonuses) + $500 (employer contributions) + $200 (PTO) = $3,400 in accrued wages. 

Thus, Sarah’s total accrued payroll is $3,400. To determine the total payroll accrual for the entire company, this calculation would need to be repeated for all employees, with similar components like wages, commissions, bonuses, employer contributions, and PTO (and all unique amounts) considered for each.

Challenges in Managing Accrued Payroll

Managing accrued payroll involves navigating complex regulations, accurately calculating employee compensation, and ensuring payroll compliance. Automated payroll software can simplify many of these challenges. Let’s examine some of the key challenges businesses face throughout the process and propose a few solutions. 

Navigating Complex Regulations: Payroll regulations vary significantly across regions, making compliance a major challenge. Managing local tax laws, wage requirements, and employer contributions becomes especially difficult for very large companies. 

Automated time tracking and payroll integration software, such as OnTheClock, ensure employee hours, wages, and taxes are accurately tracked in compliance with local regulations. This reduces the risk of costly mistakes while ensuring timely and correct payments.

Managing Variable Compensation Components: Accrued payroll involves more than standard wages, as employers must calculate commissions, bonuses, overtime, and other variable payments. Accurately estimating these within the accrual period is often difficult, particularly when performance-based metrics are involved. 

Digital workforce management software can be set up to automatically integrate with payroll systems to track bonuses, commissions, and overtime. By capturing this data in real-time, businesses can accurately project variable compensation components, reducing the risk of under or overestimation.

Accounting for PTO Accruals: Tracking accrued PTO balances and carryover limits for each employee is a challenge, particularly when policies vary between workers or regions. Errors in tracking time-off accruals can lead to payroll discrepancies. 

Digital time tracking software provides a seamless way to track PTO accruals for each employee, ensuring accurate accounting of unused vacation and sick days. These systems allow employers to set specific PTO policies and automate tracking, eliminating manual errors.

The Risk of Manual Errors: Relying on manual systems, like spreadsheets, for payroll calculations increases the likelihood of errors, which can lead to financial discrepancies, delayed payments, and potential compliance issues. 

By utilizing automated time tracking and payroll management, administrative staff reduces the risk of manual errors. Integration with payroll software ensures that hours worked, overtime, and other variables are accurately calculated, minimizing the chances of payroll discrepancies.

The Complexity of Accrual Accounting: Accrual accounting requires businesses to track and record expenses when they are incurred rather than when they are paid. Implementing an accrual-based system can be complex, especially for businesses transitioning from cash accounting. 

Software, like OnTheClock, aims to simplify the transition to accrual accounting by providing real-time tracking of wages, PTO, and payroll taxes. The platform ensures payroll data is accurate and up-to-date, reducing the complexity of accrual accounting and improving financial recordkeeping.

The Advantages of Accrued Payroll

Accrued payroll provides a comprehensive view of a company's financial health. It accurately reflects the company's liabilities at any given moment, ensuring sufficient funds are available when payday arrives.

Understanding accrued payroll liabilities is especially critical during periods where there is a delay between the end of the pay period and the actual pay date. Payroll represents a significant portion of a company's monthly expenses, and failing to track these liabilities can lead to unpleasant surprises, such as unexpectedly high payroll totals at the end of the pay period. In months where other expenses have already taken a toll on cash reserves, businesses may find themselves needing to rely on overdraft facilities to meet payroll obligations. By accurately tracking payroll accruals, companies can avoid such financial pitfalls, ensuring they are prepared for upcoming payroll costs.

Accrued payroll not only helps in preventing overdrafts but also enhances overall financial planning. By deducting the accrued payroll amounts from available funds, management gains a clearer picture of the company's financial situation. This clarity enables leadership to confidently allocate resources toward other projects and investments without the looming concern of unmet payroll liabilities. Additionally, the data on accrued payroll costs is essential for accurately preparing balance sheets, providing stakeholders with reliable financial insights.

Beyond facilitating effective budgeting and financial planning, payroll accrual also plays a crucial role in reducing payroll errors. By determining payroll expenses in advance — considering salaries, wages, taxes, and other liabilities — businesses minimize the likelihood of mistakes. Calculating these amounts upfront, rather than waiting until the last minute, enhances accuracy and reduces the risk of costly errors. Moreover, this process ensures compliance with global payroll regulations, especially for companies with employees in various jurisdictions, where laws and payroll processes can differ.

Understanding and effectively managing accrued payroll empowers businesses to navigate their financial landscape with confidence and precision, ensuring they meet their obligations while strategically planning for the future.