May 5, 2021

Preparing your small business for a payroll audit: Everything you need to know

Understanding the payroll audit process can help your small business organize and prepare all required documentation should your business be selected for review. Here’s a step-by-step guide of what to expect and the records you’ll need before the audit begins.

There are few words more fear-inducing for small business owners than “payroll audit.” But don’t worry – the payroll audit process itself isn’t as scary as you might think, and with regular upkeep of your books and payroll, it can be a relatively painless experience.

What is a payroll audit?

The easiest way to think about a payroll audit is as an inspection of payroll records. This is done to ensure compliance with tax and business law, government programs, employment standards law, and workers’ compensation requirements.

Audits exist to verify that the information you submitted to the different agencies is accurate and that you’re meeting your federal and provincial obligations. This can span multiple areas of record-keeping, such as ensuring that active employees actually work for the company, that pay rates are up-to-date, that hours worked match what’s on the payroll registers, and that the submitted tax information is up-to-date and accurate, among others.

Who can order a payroll audit?

Canada Revenue Agency and Revenu Québec (RQ) are only two of many government agencies with the authority to audit your business’ payroll. Both CRA and RQ can review your payroll and accounts payable records against your source deduction remittances and tax form filings to ensure you’re accurately reporting income. Add in provincial employment standards inspectors, workers’ compensation board, and payroll tax auditors and “there’s no shortage of people interested in how well your Ts have been crossed,” says Lyndee Patterson, Senior Compliance Counsel at Ceridian.

While the CRA is concerned with tax remittance, provincial employment standards offices also have the power to conduct inspections. These offices are typically concerned that your payroll records and practices comply with current provincial legislation, such as meeting minimum requirements for vacation entitlements, holidays, overtime pay, or scheduling.

Provincial workers’ compensation boards may also call for audits. And, you can be audited by payroll tax remittance bodies in British Columbia, Manitoba, Newfoundland, Ontario, and Québec, which enforces employers are meeting specific provincial obligations.

Why was my small business selected for a payroll audit?

There are a number of reasons your file was selected for review – all of which are not necessarily a sign that your business has done anything wrong.

In Ontario, the Ministry of Labour regularly undertakes audit blitzes, targeting industries that have historically been in violation of the provincial legislation. For example, a few years ago between May and August 2017, the government targeted industries that attracted new and young workers, such as the food services space, retail trade, amusement parks, and service sectors. Between October and January 2018, blitzes focused on shopping mall kiosks, grocery stores, and seasonal businesses.

Repeatedly missing deadlines, filing late, large and unexplained changes in reported information, or multiple employee complaints against your company can also lead a government agency to review your file more closely.

What documents do I need to prepare for the payroll auditor?

Government organizations may require the following information ahead of the payroll audit:

  • T4s, T4As, T5s, and associated summaries
  • Records of Employment (ROEs)
  • Records for casual labour and contractors, such as invoices
  • Records for cheque disbursement and cancelled cheques
  • General ledger information and year-end statements
  • Documents from minute books
  • CEWS validations
    • Attestation filed with each application
    • Calculations and eligible remuneration

For a full list of documentation auditors may ask for, download the Payroll audit guide for small businesses.

How to provide your documents and records

The auditor will typically request for your electronic records before meeting with you at your business. According to the CRA, this usually speeds up the audit process and leads to less time spent on site. If electronic records are not available, or physical records are required, the auditor will set up a time to review the hard copies of your documentation and records at your business or borrow the documents for further review. The auditor will provide you with a receipt for any borrowed documents.

Steps to prepare for a small business payroll audit

Here are a few actions to take and general considerations you’ll want to keep in mind before the payroll audit process begins.

Speak with the auditor: Many small businesses don’t avail themselves of the opportunity to consult with their auditor in advance of an audit. You can simplify their review – and reduce their time spent – by understanding what they require and preparing the information they need from you.

Update and review your payroll: Take the opportunity before the audit begins to ensure your payroll accounts are up-to-date and your records reconcile.

Related: A guide to choosing the right payroll software for your small business

Prepare the information the auditors have requested: After talking with the auditor, put the files together in the format they’ve requested. If, after reviewing your files, you can see additional information auditors might find useful, pull it out and put it aside for easy reference.

Prepare a workspace for the auditor: Consider whether on-site accommodation for the auditor is appropriate in the circumstances. Offering a space free from distractions may help the auditor to complete the audit work more quickly.

Make yourself available to answer questions: While you don’t have to keep your calendar completely free of obligations, tell the auditors the best way to reach you and keep your door open to their questions should they have any.

Be prepared for the end results: Auditors can reassess taxes owed and impose penalties for offences. At the end of a CRA audit, you will receive a letter describing the outcome. There will either be no adjustment, an adjustment requiring more tax to be paid, or an adjustment entitling you to a refund. Penalties and interest can be applied.

Avoiding payroll mistakes

“At a bare minimum, small businesses should do a quarterly self-assessment of their payroll, paying close attention to discrepancies and making a paper trail for their future selves to appreciate,” says Lyndee Patterson, Senior Compliance Counsel at Ceridian.  

If a payroll error is identified after payroll has been processed, you should take immediate action to rectify the problem. For example, if an employee is missing vacation pay, employers can add the missing pay to the next pay period or write the employee a cheque before the next pay period.

Read next: How to pay employees in a small business

The single greatest way to keep the audit process painless is to stay on top of payroll matters and keep your accounts balanced and up-to-date. The right payroll software will help you better manage compliance year-round, and keep your business and employee information safe and secure.

Download the small business payroll audit guide to learn:

  • What information and documents you’ll need
  • A list of fines and penalties of non-compliance
  • How to stay on top of payroll compliance year-round

Gladys Miranda

Gladys Miranda is a Sr. Marketing Manager at Ceridian

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