Retro Pay

Errors can happen while computing an employee’s compensation. In these instances, the payroll department can issue retroactive pay. Here’s what you need to know about retro pay. 

What is Retro Pay?

Retroactive pay or retro pay is a type of compensation typically added to the employee’s paycheck as a result of computation errors during the previous pay period. In most cases, the HR Team and Accounting Department take care of retroactive pay - the HR communicates with the employee about the errors, while the Accounting Department computes the amount of retroactive pay the employee must receive. 

As employers, you must calculate retro pay correctly and release it as soon as possible to keep the employees satisfied and to stay compliant with the labour laws. 

When is Retro Pay Necessary?

Retro pay is necessary if there are errors in the following:

Overtime rate

The overtime rate is usually higher than the regular rate. If there are mistakes in computation and the employee receives a lower compensation, retro pay is necessary. 

Shift differentials 

Shift differential is a monetary premium or additional pay rate offered to employees for working during non-standard hours, such as evenings, nights, weekends, or holidays. For example, in the BPO industry, an employee working the night shift usually has an increased rate. If they didn’t receive this increased rate in their paycheck, the employer must issue a retroactive pay. 

Commissions and bonuses 

Should there be a commission or bonus on a particular pay period and it wasn’t reflected, then a retro pay must be provided in the employee’s next paycheck. 

Raises

Pay raises should reflect right away, if they don’t, the next paycheck must be adjusted with the correct rate plus the difference between the previous and current rates. 

How to Calculate and Distribute Retro Pay?

To calculate the retroactive pay, the HR and Accounting must take the following into account:

• Is the employee salaried or hourly?
• Is the employee eligible for overtime pay? 
• How many days are affected by the error in computation? 

Here are some examples of computations:

Salaried Employee

Let’s say an employee’s annual salary is raised from $45,000 to $60,000, but the raise didn’t reflect on their paycheck. If the employee is paid monthly, here’s how you can compute for the retro pay:

1. Divide the previous annual salary by the number of pay cycle

• 45,000/12 = 3,750 per month 

1. Divide the current annual salary by the number of pay cycle

• 60,000/12 = 5,000 per month

1. Calculate the amount the employee should have received vs what he or she received

• 5,000 - 3,750 = 1,250 → This should be their retroactive pay that can be added to the next paycheck

Hourly Employee

An employee has a contract to work for 20 hours a week at a standard rate of $20 per hour. However, in a particular week, the employer asks them to work for an extra 10 hours with an increased rate of $25 per hour. 

However, when they received their weekly paycheck, they only received the payment for 30 hours at the standard rate. As the rate for the extra hours is higher, there should be a retro pay. Here’s how to compute it:

1. Determine what the employee should have received for the week. In this case, 20 regular hours * $20 which is the standard hourly rate PLUS 10 extra hours * $25 increased hourly rate. 

• $400 + $250 = $650 → This is what the employee should have received in their paycheck. 

1. Determine how much they received. In this case it’s 30 hours * $20(which is just the standard hourly rate

• They only received $600. 

1. Subtract what they have received from what they should have received. 

• $650 - $600 = $50 → This is the retro pay 

Note that retro pay should also withhold the required deductions and should show up on pay stubs. Finally, while it’s common for employers to issue retro pay in the next paycheck, they can also issue a separate payment. 

Is Retro Pay the Same as Back Pay? 

Retro pay is different from back pay, which is the compensation given to the employee for the pay period where they didn’t receive payment at all. To better demonstrate their difference, here are some examples:

• If your employee worked overtime but didn’t get paid at their overtime rate = retro pay
• If your employee worked overtime but didn’t get paid for it at all = back pay
• If there’s supposed to be a commission, but the employee didn’t receive any = back pay