Payroll Compliance Auditor
Run a full payroll audit in under 10 minutes. Catches the errors that cost companies $845 per violation.
What It Does
- Classifies workers (W-2 vs 1099) using the IRS 20-factor test
- Audits overtime calculations against FLSA rules
- Checks tax withholding accuracy (federal, state, local)
- Flags misclassification risk with dollar-amount exposure estimates
- Generates quarterly compliance checklists
- Produces audit-ready reports for DOL or state agency reviews
How to Use
Tell your agent:
Full payroll audit: "Run a payroll compliance audit for [company]. We have [X] employees across [states]. Pay frequency is [weekly/biweekly/monthly]."
Worker classification check: "Check if these roles should be W-2 or 1099: [list roles with descriptions]."
Overtime audit: "Audit overtime compliance. Our employees work [schedule]. We're in [state]. Current OT policy: [describe]."
Tax withholding review: "Review tax withholding setup for employees in [states]. We use [payroll provider]."
Audit Framework
1. Worker Classification (IRS 20-Factor Test)
Score each worker across three categories:
- Behavioral Control (6 factors): Instructions, training, integration, personal services, hiring assistants, work hours
- Financial Control (5 factors): Business expenses, investment, profit/loss opportunity, market availability, method of payment
- Relationship Type (4 factors): Written contracts, benefits, permanency, key services
Risk levels:
- 0-4 factors toward employee → Low risk (likely contractor)
- 5-9 factors → Medium risk (review needed)
- 10+ factors → High risk (likely misclassified)
Penalty exposure per misclassified worker:
- Back employment taxes: 15.3% of wages
- FLSA overtime liability: up to 3 years back pay
- Benefits liability: retirement, health, PTO
- IRS penalties: $50-$260 per W-2 failure
- State penalties vary: $5K-$25K per violation (CA, NY, MA highest)
2. Overtime Compliance (FLSA + State)
Check against federal AND state rules (state wins when more generous):
| Rule | Federal (FLSA) | California | New York | Washington |
|---|---|---|---|---|
| OT threshold | 40 hrs/week | 8 hrs/day OR 40/week | 40 hrs/week | 40 hrs/week |
| OT rate | 1.5x | 1.5x (2x after 12 hrs/day) | 1.5x | 1.5x |
| Salary exemption | $58,656/yr (2026) | $66,560/yr | $62,400/yr (NYC) | $67,724.80/yr |
| 7th day rule | None | 1.5x first 8 hrs, 2x after | None | None |
Common violations:
- Averaging hours across two weeks (illegal under FLSA)
- Not paying OT on bonuses/commissions
- Misclassifying non-exempt as exempt
- Rounding errors exceeding 7-minute threshold
- Auto-deducting meal breaks not actually taken
3. Tax Withholding Accuracy
Verify against current tables:
Federal:
- 2026 FICA: 6.2% SS (wage base $174,900) + 1.45% Medicare
- Additional Medicare: 0.9% above $200K single / $250K married
- FUTA: 6.0% first $7,000 (5.4% credit = 0.6% effective)
State cross-checks:
- SUI rates (experience-rated — verify annual notice)
- SDI/PFL (CA, NJ, NY, WA, MA, CT, OR, CO, MD)
- Local taxes (NYC, Philadelphia, San Francisco, etc.)
- Reciprocity agreements (employees in different state than work)
4. Quarterly Compliance Checklist
Monthly:
- [ ] Reconcile payroll register to GL
- [ ] Verify new hire reporting (within 20 days)
- [ ] Check garnishment calculations
- [ ] Review PTO accrual accuracy
Quarterly:
- [ ] File Form 941 (federal) by last day of following month
- [ ] File state unemployment reports
- [ ] Reconcile YTD withholdings to pay stubs
- [ ] Review contractor payments approaching $600 threshold
- [ ] Audit benefit deductions against enrollment
Annual:
- [ ] W-2 distribution by January 31
- [ ] 1099-NEC filing by January 31
- [ ] ACA reporting (1095-C) by March 2
- [ ] Update salary exemption thresholds
- [ ] Review state minimum wage changes
- [ ] Workers' comp audit preparation
5. Audit Report Format
PAYROLL COMPLIANCE AUDIT REPORT
Company: [Name]
Period: [Q1/Q2/Q3/Q4 YYYY]
Employees: [Count]
States: [List]
Audit Date: [Date]
EXECUTIVE SUMMARY
Overall Risk Score: [Low/Medium/High/Critical]
Issues Found: [Count]
Estimated Exposure: $[Amount]
FINDINGS
[F-001] [Category] - [Severity]
Description: [What's wrong]
Exposure: $[Amount]
Remediation: [Fix]
Deadline: [Date]
RECOMMENDATIONS
1. [Priority action]
2. [Secondary action]
3. [Long-term improvement]Cost of Getting It Wrong
| Violation | Average Penalty |
|---|---|
| Misclassification (per worker) | $12,000-$25,000 |
| FLSA overtime (per employee) | $1,000-$10,000 + back pay |
| Late W-2/1099 filing | $50-$580 per form |
| Failure to deposit taxes | 2%-15% of deposit |
| Willful failure | $100K+ fine + criminal |
The DOL recovered $274M in back wages in 2024. Average investigation finds $1,150 per employee owed.
Who This Is For
- HR teams without dedicated payroll compliance staff
- Growing companies expanding to new states
- Businesses using contractors heavily (tech, construction, healthcare)
- Anyone who just got a DOL audit letter
*Built by AfrexAI — AI context packs for business operations. Full compliance automation: $47 Professional Services Pack.*
*Calculate what payroll errors are costing you: AI Revenue Calculator*
*Set up your own compliance agent in 5 minutes: Agent Setup Wizard*