Labour Costs and Remuneration Methods

1 Introduction

This chapter looks at how remuneration is calculated and accounted for.

2 Remuneration methods and systems

Large organisations will have a wages and salaries department which is responsible for calculating amounts owing, dealing with employees who leave and with new joiners. Sometimes the payments to each employee are the same every week or month; sometimes they depend on time records (such as clock cards), production records, or some other type of calculation. In all cases employees will receive a wage or salary slip showing their pay and any deductions for tax etc.

The amounts to be paid will usually be passed to the accounting department which will look after the cash transfers to employees, the tax authorities and any other recipient, such as pension funds.

Employees can be paid by:

• Cash
  

• Cheque
  

• Credit transfer to their bank account
  

Cash payments are becoming much less common. They were labour intensive as envelopes had to be filled with the correct cash for each employee. There were also considerable security issues as the cash needed for a large workforce was very significant and an attractive target for robbery.

Additionally, as wages were being handed out, care was needed to ensure that the right people received the cash and that they evidenced, by signing a register, that their wages had been received.

3 Labour costs

Labour costs can arise from:

• Basic wage or salary
  

• Overtime premiums
  

• Bonuses
  

• Commission (for example so much per sale made)
  

• Holiday pay
  

• Sick Pay
  

• Payroll taxes
  

Many countries pay wages and salaries under a ‘pay as you earn scheme’ which means that the employer deducts the employees’ income tax from the gross wage and pays that over directly to the tax authority. Only the net amount after tax is then paid to the employee.

Employee remuneration can be based on the following approaches:

1. A constant weekly or monthly amount
   

This is easy to calculate:

Labour cost = remuneration per period x number of periods

2. An amount based on hours worked (basic plus overtime)
   

3. An amount based on units produced: piecework
   

Often there is a guaranteed minimum amount of pay so as to comply with minimum wage rate legislation.

4. An initial amount plus a bonus
   

Here, for example, the bonus could be part of a profit share. Full instructions would have to be supplied as to how to calculate the amounts.

4 Gross and net earnings

Gross pay:   the total amount earned by the employee

Net pay:   the amount paid to the employee after the employer makes deductions for income tax and certain statutory amounts.

Total labour cost to employer:   employees’ gross pay plus any additional payroll taxes and pension contributions that the employer has to bear.

5 Accounting for labour costs

Labour costs can be accounted for using a Salaries and Wages Control account

6 Authorising the payroll and keeping it secure

Payroll is the largest single payment most businesses make, it is made to people who work there, and it is built on standing data that somebody has to be able to change. That combination is why it is controlled more tightly than almost anything else in the accounting system.

6.1 Authorisation

Every payroll run should be authorised before the money moves:

• the hours, overtime and piecework quantities are approved by the employee's own manager before they go to payroll, not afterwards;
  

• a change to STANDING data — a new starter, a leaver, a change of pay rate, a change of bank account — is authorised in writing by someone independent of payroll, and a report of every standing-data change made during the period is reviewed against those authorisations;
  

• the completed payroll is reviewed and signed off before payment, normally against the previous period: a list of starters and leavers, and an explanation of any large change in the total, will find most errors;
  

• the payment itself is released by a different person from the one who prepared the payroll;
  

• the payments to the tax authorities and to the pension fund are authorised in the same way.
  

The principle behind all of that is the segregation of duties you met in chapter 1: the person who can add an employee must not also be the person who can release the payment. A payroll where one person does both is how a 'ghost employee' gets paid.

6.2 Security of payroll information

Payroll records are personal data — names, addresses, dates of birth, national insurance or social security numbers, bank details, salaries, sometimes sickness records. They have to be protected both from outsiders and from curious colleagues:

• access to the payroll system is restricted to named payroll staff, by password and by user profile, and read-only where that is enough;
  

• payslips are sealed, or issued through a secure self-service portal, so that nobody else sees another employee's pay;
  

• payroll files, whether paper or electronic, are locked away or encrypted, and back-ups are held securely;
  

• payroll data is not emailed as an open attachment, and reports are not left on a shared printer;
  

• the records are kept for the period the employment and tax rules require, and then destroyed securely;
  

• changes to bank details are confirmed with the employee directly before they take effect — a request by email alone is the classic payroll fraud.
  

If payroll information leaks, the damage is not only financial: the business will have breached data-protection law and lost the trust of its own staff.

7 FA1 exam focus — Chapter 8