Throw one extra day into the year and it can create all kinds of payroll confusion for employers. While the headaches an extra pay period can create aren’t exclusive to leap years, many employers run into an extra pay period during leap years, like this year’s.
But the once-every-four-years appearance of February 29 isn’t employers’ only source of payroll perplexity. Any year with more than 260 workdays means 53 weekly pay dates instead of the normal 52, or 27 biweekly pay dates instead of 26.
Whether your company will have an extra pay date depends on when you issued your first employee paychecks this year. If you use a weekly or bi-weekly payroll frequency and issued the first paychecks of 2020 on January 2, a 53rd or 27th payday will occur on Thursday, December 31. Similarly, if you issued the first paycheck of 2020 on January 3, and your payroll policy provides that when paydays fall on a holiday, employees will be paid on the previous business day, a 53rd or 27th payday will occur on December 31 because of the January 1, 2021, holiday. This likely will affect many companies, as the most common weekly and bi-weekly payday is Friday. Along the same lines, if you normally pay on Wednesdays, but due to the Jan.1, 2020 holiday, issued payroll on Jan 2, 2020 instead, a 53rd or 27th payday will occur on Wednesday, December 30th.
The extra payday only has the potential to create payroll issues for exempt employees who, unlike their non-exempt counterparts – those paid based on hours worked – are salaried and receive an equal portion of their annual salary in each paycheck. Exempt employees’ annual salary ordinarily is divided by either 52 or 26 paydays, and W-2 income is their stated salary plus any additional compensation (bonuses, taxable fringe benefits, etc.).
There are several options for calculating and paying salaries in a year with 53 or 27 paydays:
1. Pay as Usual
The first and most commonly applied option is to make no changes and continue to pay the same amount on each payday, recognizing one extra paycheck in the year. Over the course of five to six years (for weekly payrolls), this anomaly results in the accrual of seven additional days. For bi-weekly payrolls, the anomaly occurs once every 11 years. Due to this, many employers take the stance that, theoretically, salaried employees who are paid once a week or once every two weeks arguably are entitled to an extra paycheck once every five to six years (weekly pay) or every 11 years (bi-weekly pay).
There are several other reasons why most employers take the pay-as-usual approach:
- It prevents employee backlash and negative impact on overall employee morale.
- It maintains consistency with offer letters that reference a fixed weekly or bi-weekly salary. According to the Society for Human Resources Management, offer letters should provide details on salary and pay periods. Employee compensation should be stated in hourly, weekly or per-pay-period salary amounts to avoid creating an expectation that the employee will receive the full annual salary if he or she is terminated midyear. An annualized equivalent may be mentioned, but only after pay is clearly stated in one of these increments.
- It prevents compliance issues. Failure to address payroll issues correctly could result in legal liability under both the Fair Labor Standards Act and applicable state wage payment laws.
The consequence of the pay-as-usual approach for employers is an increase in payroll costs for the year. Employers can proactively address this issue by incorporating the topic into the company’s year-end planning and ensuring the annual budget accounts for the extra pay period before the budget is settled.
Employers also should consider the possible impact on employer and employee benefit contributions. For example, employees who contribute a percentage of each paycheck to a 401(k) or flexible spending account program are limited by annual caps. An extra paycheck may result in negative tax consequences if those caps are exceeded. Employers should ensure their payroll and benefits systems or those of their payroll outsourcing partners are set up to manage the deductions and benefits contributions issues associated with the extra payroll. This also could be an issue for employers who utilize an accrual system for paid time off.
2. Divide Annual Salaries by 53 or 27 Paydays
Although this will result in a reduction in the amount of the employee’s check each payday, the reduction will be offset by an extra paycheck at the end of the year, and employees will be paid their regular annual salaries. This option would need to be in place and communicated before the beginning of the 53- or 27-pay-period year.
Employers who select this option should ensure compliance with the federal Fair Labor Standards Act and any relevant state wage laws. Additionally, employers should review all documents, such as offer letters or collective bargaining agreements, related to individual employees’ terms of employment. Specific wording or clauses in these documents may eliminate this option.
The consequence of this approach for employers is the potential negative impact on overall employee morale. It can be hard to sell employees on the idea of a decreased regular pay-period salary, even though the difference is made up at the end of the year. Employees often perceive that they are being treated unfairly and being paid less than they have been in the past.
Before taking this approach, employers also should consider the time involved in updating the payroll system for the impacted year and the following year and the cost of retraining staff, as well as the resources necessary to communicate the change to employees in multiple years.
3. Move to a Semi-Monthly Pay Cycle
Another solution a very small percentage of companies choose is to change from a bi-weekly pay cycle (paid every other week for two work weeks) to a semi-monthly pay cycle (paid twice a month for a specific range of days). While this solution often is appealing at first glance, especially in terms of budgeting, financial reporting and time spent on payroll tasks, there are potential drawbacks.
The consequence of moving to a semi-monthly pay cycle means the pay period and the workweek do not run parallel. This can be challenging if you plan to pay both exempt and non-exempt employees on a semi-monthly payroll. Some workweeks will begin and end during the same pay period; others will begin in one pay period but carry over to the next, which means looking at two separate pay periods to determine overtime calculations for your non-exempt employees. This is because overtime wages must be calculated on an established workweek – for instance, Sunday through Saturday or Monday through Sunday – rather than on the pay period.
Consequently, some employers elect to move only their exempt employees to a semi-monthly pay cycle. Employers should again consider the time spent managing multiple pay cycles and also managing a pay cycle change versus the cost of the additional payroll and the efficiencies of a single, consolidated pay cycle.