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As an employer, you may identify areas of non-compliance, such as finding out your business has underpaid employees. If so, you need to manage this issue promptly and correctly. There is not only money at risk, but also potential damage to your business’s reputation and the morale of your employees. This article explains the steps you can take after identifying an underpayment.

Calculate the Amounts Precisely

Once you have identified an issue with underpaying your employees, you need to accurately calculate the underpayment amount. You can either:

  • calculate the amounts internally; or
  • engage forensic accountants to conduct a comprehensive external audit.

An employment lawyer can also help you interpret any modern award or enterprise agreement that applies to your business. They can also confirm the entitlements that you owe to your employees. Involving forensic accountants or employment lawyers is likely to be more expensive than conducting an internal review.

However, it has the benefit of being an unbiased and reliable examination of your historical and current records. An external audit can also help to validate your calculations of underpayment amounts.

Steps For Calculation

Work Out the Duration of the Underpayment

Your employees may have been underpaid for a single pay period, or for months or even years depending on how long the employee has worked for you and when the mistake occurred. Depending on the reason for the underpayment, you may need to review your employees’ pay records for a short period or the entire period of employment.

You can check the pay records for a short period of employment if you know the exact duration of the underpayment and are confident that you paid your employees correctly during the rest of their employment.

For example, you may identify that an underpayment occurred because of a single payroll error, and therefore you only need to check that pay period. A payroll error can arise due to:

  • computer or human error;
  • paying the wrong number of hours;
  • not applying penalty or overtime rates; and
  • not paying entitlements such as leave or allowances.

You may also discover that you missed a pay increase from a specific event or change in your employees’ conditions. In this situation, you can review the pay records starting from the date of the change. Events that can result in a pay increase include:

  • an increase in the national minimum wage;
  • your junior employee has a birthday;
  • your employee’s duties or responsibilities change;
  • the employee obtains a job-related qualification; and
  • your apprentice or trainee completes their course and moves to the next pay level.

You will need to check the pay records for the entire period of employment if you paid your employees less than the minimum pay rate and you’re not sure how long you may have underpaid them for.

Work Out How Much Your Employees Should Have Been Paid

You can determine how much your employees should have been paid by reviewing the number of hours worked by the employees (including the times and days that those hours were worked) during the underpayment period.

You should also check if your employees were entitled to any other entitlements, such as: 

  • penalty rates;
  • overtime;
  • allowances;
  • leave payments; and
  • leave loading.

You will need to consider if there are any additional tax and superannuation that should have been paid during the underpayment period. 

Work Out How Much Your Employees Were Actually Paid

Work out how much your business paid employees during the underpayment period by reviewing your payslips and pay records. The relevant amount is the gross amount before deducting tax. It is not the amount that your employees received in their bank account.

Calculate How Much Your Employees Have Been Underpaid

The underpayment is the difference between the amounts you calculated in steps two and three.

Fix Systems to Ensure No Further Non-Compliance

Your internal and external audits into the underpayments will help identify the root causes of the issue.

For example, you may discover that you have misinterpreted the modern award or enterprise agreement that applies to your employees. You might also discover that you have not kept accurate and clear time and wages records for your employees.

You will need to rectify these sources of underpayment and implement changes to processes or systems that may have contributed to the issue to prevent further non-compliance.

An ongoing automated system (such as payroll and workforce management software) can help you to maintain employee records and make discrepancies easier to see and rectify. 

However, you should not over-rely on technology, and you need to ensure that the systems are configured and updated correctly. Payroll systems can become outdated and incapable of identifying infringements of entitlements.

For example, when pay rates change or actual hours worked by your employees deviate from the roster and aren’t recorded.

You can use the following (non-exhaustive) checklist to help review and improve your systems. Here, you should check whether you:

  • have adequate payroll processes and internal controls to ensure there is one source of truth and limited re-inputting of data;
  • have good timekeeping practices;
  • undertake regular audits of workplace compliance;
  • have up to date payroll systems and record-keeping procedures;
  • have human resources and payroll staff adequately trained and resourced;
  • established easy and clear methods for your employees to communicate suspected issues with you;
  • have subscribed to Fair Work’s email updates to stay informed about annual minimum wage increases and changes to modern awards;
  • have made notes in your calendar regarding increases in pay for your employees, such as junior birthdays or yearly apprentice progression; and
  • have kept employee records for at least seven years.

Remediate and Back Pay the Amounts

You need to back pay your employees as soon as possible after calculating the underpayment amounts. You can make the back payment as part of the normal pay cycle or as a separate payment, and it must be recorded in your employees’ pay records.

If you cannot afford back paying your employees in a single payment, you can negotiate a payment plan with your employees to pay the amount over a few weeks or months. The agreed payment plan should be written down and signed by you and your employees.

Notifying the Fair Work Ombudsman (FWO)

You are not required to notify the FWO of the underpayment. However, disclosing the issue to the FWO can be an important step to rectify the underpayment and advise the FWO that you are taking steps to correct your mistakes. 

 The FWO may choose to investigate the matter if it involves serious issues or is in the public interest, even if your affected employees have been repaid. 

The FWO’s powers of investigation include: 

  • entering your premises;
  • interviewing any person (with their consent) about the suspected issue; 
  • requiring you to produce records or documents such as rosters, timesheets and payslips; and
  • inspecting records and documents.

The FWO has a range of enforcement options for non-compliance, including to:

  • ask you to enter into an enforceable undertaking (a written agreement) to agree to fix the underpayment and commit to future compliance measures. Such as, to implement a new payroll system, to apologise to your employees, and to continue self-auditing your pay in the future;
  • issue you a compliance notice to rectify the issue and provide evidence of compliance;
  • issue you an infringement notice (similar to an on-the-spot fine);
  • require you to attend training on compliance with applicable workplace laws;
  • require you to publish a written public apology; and
  • commence legal proceedings to prosecute you and obtain a penalty.

The maximum penalty for each breach of the Fair Work Act for a body corporate is $63,000 or $630,000 for a serious contravention. A serious contravention occurs when you know that you are breaching workplace laws, and the contravention was part of a systematic pattern of conduct.

Notifying the FWO of the underpayment is not a legal requirement and will not necessarily protect you from the FWO enforcement action or commencing legal proceedings. However, it may reduce the risk of prosecution and the penalty amount.

Internal and External Communication

The way you handle communication of the issue will depend on the scale of the underpayment. The communication process will be different if you only underpaid a few employees and have rectified the issue quickly with systems established to prevent it from happening again, compared to identifying underpayments of hundreds of employees or millions of dollars.

You can consider communicating with the entire business, not just your affected employees, that you have discovered a potential underpayment and that you are working on back paying the amounts owed to those impacted.

You can also take a proactive approach to handle public relations by releasing a public statement to take responsibility for the issue and your plan to remediate before a third party breaks the news.

Honest and transparent communication of inadvertent underpayments can improve the trust of your employees and the public in your business and reduce negative media scrutiny. The communication should be ongoing until the issues are fully resolved.

Key Takeaways

A proactive approach to dealing with an underpayment issue can help minimise the potential financial and reputational damage to your business. After you have identified an underpayment, you need to calculate the underpayment amount internally, or you can enlist the help of a forensic accountant or employment lawyer. You need to back pay your employees as soon as possible and establish a plan to fix your systems to prevent any further non-compliance.

You should also carefully consider how to communicate the issue with your employees and the public. While you do not have to notify the FWO of your underpayments, but taking this step can show the FWO that you are taking the matter seriously. The FWO has broad powers to monitor and investigate non-compliance, and a range of enforcement options. If you have any questions about dealing with an underpayment issue, contact LegalVision’s employment lawyers on 1300 544 755 or fill out the form on this page.


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