What is backpay?
Backpay is the compensation an employer owes an employee for work they’ve already performed but weren’t properly paid for at the time. It can include missed wages, unpaid overtime, withheld bonuses, or retroactive pay increases. Essentially, backpay is money your business still owes to an employee based on legal, contractual, or administrative errors.
For small business owners, backpay often comes into play when payroll mistakes happen, when a wage adjustment is made retroactively, or as the result of a legal dispute, such as a labor law violation or wrongful termination claim. Understanding how to handle backpay correctly helps you stay compliant, maintain trust with your team, and avoid penalties.
What causes backpay?
Backpay can result from a variety of situations, such as:
- Payroll miscalculations – An employee was underpaid due to a data entry error or misclassification.
- Overtime errors – A non-exempt employee worked overtime but wasn’t paid at the correct rate.
- Minimum wage violations – An employee’s pay dropped below minimum wage due to tip credits or deductions.
- Promotions or raises applied late – If a raise was agreed upon but not added to payroll until weeks later, the difference must be paid.
- Unpaid bonuses or commissions – When compensation is promised but not delivered according to contract terms.
- Legal claims – A court or labor board orders you to compensate a former or current employee for past wage violations.
In any case, the responsibility falls on the employer to make things right—often with interest or penalties if action isn’t taken promptly.
Is backpay required by law?
Yes, in many cases it is. The Fair Labor Standards Act (FLSA) requires employers to pay employees for all hours worked, including overtime. If you fail to do so, the U.S. Department of Labor or a state labor agency can require you to issue backpay.
Additionally, backpay is frequently awarded in cases involving:
- Wrongful termination
- Wage theft
- Discrimination claims
- Breach of contract
Ignoring backpay can lead to lawsuits, fines, and damage to your business’s reputation.
How to calculate backpay
The amount of backpay owed depends on the specific reason for the shortfall. Here’s a general approach:
- Identify the underpaid period – Review dates of missed payments or rate discrepancies.
- Calculate what was paid – Total all wages already paid during the period.
- Determine what should have been paid – Include regular wages, overtime, bonuses, or shift differentials.
- Subtract the difference – The result is the backpay amount owed.
In some cases, you may also need to calculate taxes, deductions, and interest. Always keep documentation to support your calculations in case of an audit.
How to pay backpay correctly
Once you’ve calculated the amount owed:
- Run the payment through payroll – Backpay must go through the normal payroll process so taxes and withholdings are applied.
- Use a separate line item – Label the backpay on the employee’s pay stub for transparency.
- Report the income properly – Include backpay on the W-2 form for the correct tax year.
- Pay promptly – Delaying payment can increase your legal risk and damage employee trust.
Some payroll providers allow you to run an off-cycle payroll specifically for backpay. This helps you correct errors quickly without waiting for the next scheduled payday.
How backpay affects taxes
Backpay is considered taxable income, even if it's paid in a different calendar year than when the work was performed. It’s subject to:
- Federal and state income tax
- Social Security and Medicare taxes
- Applicable local taxes
Your payroll provider or accountant can help you navigate how to properly withhold and report taxes on backpay.
How Homebase helps with accurate payroll
Backpay issues often start with time tracking or payroll errors. Homebase payroll integrates with your scheduling and time clock data, so employees get paid correctly from the start. But when mistakes happen, Homebase makes it easy to fix them.
With Homebase payroll, you can:
- Automatically calculate wages based on tracked hours and rates
- Adjust historical pay rates or hours to issue backpay correctly
- Run off-cycle payrolls to process one-time payments
- Keep clear records for audits or employee disputes
- Ensure proper tax withholding and reporting on all payments
Explore Homebase payroll to simplify wage calculations, prevent costly payroll errors, and build a more trustworthy payroll process from the ground up.