Overpaying Employees: What You Can Do As An Employer

Accidentally overpaying employees is more common than you may think. Whether you’ve inadvertently overpaid an employee when hiring or promoting them or when they change their benefit elections, it happens. And it’s important to have a plan in place to avoid a hit to employee morale and noncompliance with any applicable federal and state laws. What do you need to do? Let’s find out.

Download our free Complete Guide to Payroll Solutions and determine if outsourcing is right for you.

In this article, we’ll share the common causes of overpayment, whether employers can take back overpaid wages, how to go about overpayment collection, and how you can prevent payment errors in the first place. After reading this, you’ll know how to handle overpayment of wages to avoid negative consequences to your workplace.

What are common causes of overpaying employees?

Overpaying employees can happen for a number of reasons. Some of the more common causes of an overpaid employee include:

• Keystroke mistakes: In some cases, when entering payroll data, there can be a mistake that results in the overstatement of hours.
• Time clock errors: Time clock errors can be caused when you add hours to an employee who has missing or inaccurate punches.
• Bonus pay withholding discrepancies: When you pay an employee a bonus, they may want taxes withheld at a specific rate that’s different from their usual withholding and errors can arise when you don’t process the bonus accordingly.  
• Wrong employees: Sometimes, you may pay an employee another worker’s hours in error.
• Miscalculations: It’s not uncommon for employees to be overpaid due to matters like withholding or overtime miscalculations.

Can employers take back wages from an overpaid employee? 

Both federal legislation like the Fair Labor Standards Act (FLSA) and state labor and employment laws give employers the right to recover an overpayment in full.

Before you initiate a recovery, you’ll want to check your state’s law to see if there are any limitations on when you can recover. For example, in New York, you can only deduct from an employee’s pay for the recovery of overpayments of wages when it’s due to a mathematical or clerical error.

In other states, like California, employee consent is required first or it is considered an unlawful deduction. Depending on how your direct deposit authorization form is worded, that may give the employee’s consent to a reversal.

What’s required to collect wages from overpaid employees?

It’s important to understand that you should follow specific steps in order to recover an overpayment. The FLSA has a recommended process but you should also check your state’s laws.

The following is a suggested process:

• Determine how much you overpaid the employee during the pay period.

• Contact the overpaid employee. Explain the situation as soon as you’re aware of the overpayment before taking any action to recover the funds. In some states, like Michigan, notifying the employee in writing is a requirement. 

• Inform them you plan to deduct the overpayment out of their next paycheck or process a direct deposit reversal, which you have 5 business days to complete. If your employee is in a state where direct deposit reversals are restricted, such as California, the employee must either sign an approval for the reversal or they can pay you back manually with a personal check. Either way, ask your employee if a reversal will cause a financial burden (when an employee receives extra money – whether they notice it or not – they may spend it right away). If so, try to arrange installments that you both agree on and garnish the employee’s future wages over a period of time. The process you select should be agreed upon in writing by you and your employee.
• Provide any required documentation. In some places, like Washington, you’ll need to not only notify the employee but also provide documentation of the overpayment and terms of the adjustment.

Even if you take all these steps, you may run into issues when trying to recover an overpayment, especially in places where the employee’s consent is needed or when an employee has left your company, which we’ll talk about next. In these cases, or when an attempt is unsuccessful, you may seek legal action to recover the overpayment.

How can an employer collect an overpayment if an employee has left the company?

The first step in recovering an overpayment when an employee has left your company is to contact the former worker and request that they return the money. The hope is that they’ll agree. However, if you can’t reach the employee or they refuse to pay back the overpayment, you’ll need to decide whether it’s best to take legal action or let the issue go.

How far back can an employer collect overpayment?

You should initiate a recovery of overpaid wages as soon as you discover the mistake. In some cases, that may happen right away. Other times, you may not be aware of the issue for some time.

Fortunately, your state may give you a period of time to recoup the overpayment. In New York, for example, you can collect overpayments up to 8 weeks prior to notification to an employee that there was a problem and you have a maximum of 6 years to do so. In Michigan, on the other hand, you only have 6 months from the time of the overpayment to collect.

What can employers do to prevent overpaying employees?

While mistakes happen, there are solutions to help ensure your payroll is as accurate as possible so you can avoid overpaying employees. One of the best things you can do to help prevent overpaying employees is to total hours at the end of each pay period and review them for accuracy. If you’re using a time clock, you can print a summary report of hours worked, edited, and missed punches.

Another proactive step you can take to help minimize these situations is to have a written policy that instructs employees to check their paystubs and immediately report any errors in payment. Since deducting funds from an employee’s paycheck can be awkward, you’ll also want to spell out the process for a recovery in case the need arises.

Finally, many employers opt to use an outsourced payroll provider to help them process payroll and ensure greater accuracy. While a payroll vendor’s processing will only be as correct as the data you provide them, they can work with you on processes and the integration of other technologies like time and attendance platforms that will help you identify any errors early. To see if this may be a good fit for your company, gain a better understanding of the top signs that indicate it may be time for you to outsource. 

Editor's Note: This blog was originally published in August of 2021 and was updated in May of 2023 for accuracy.