What is Retro Pay?
Retro Pay or Retroactive Pay is the payment made for previous periods of employment for which the payment has been delayed. These delays can be due to changes in the rate of wages. Retro pay can be classified into three major categories:
- Arbitration awards: The salary given as a resolution of a dispute outside the judicial system is termed as arbitration award.
- Litigation and grievance settlements: The payments received by an employer as a part of a resolution of a dispute without a formal trial are called grievance settlements.
- Retroactive salary payments: These are the compensation made to fill the payment gaps that occurred due to a delayed salary increase, bonus, or overtime.
If an employee worked overtime, they are eligible to receive retroactive pay. The employer must pay the compensation as per the overtime rate.
Calculating arrears is complex and time-consuming if done manually. Moreover, it delays salary disbursement. With Keka, payroll managers and HRs can ensure accuracy in salary calculation. They can easily calculate arrears, reimbursements, and other components for on-time salary disbursement. Keka’s payroll software gives the advantage of running the preview of payroll period and reviewing every aspect before realizing the salary.
What are the Retro Adjustments Made in Payroll?
Retro adjustments refer to the shortfall in an employee’s pay history. The adjustments are made to compensate the employee for overtime, missed pay, bonuses, commission, and other factors. Each one of these factors is explained in detail below.
- Overtime earnings: If the employer has missed paying for the overtime or has made a mistake calculating overtime earnings, they must pay for the shortfalls. As overtimes are usually irregular, they are often overlooked.
- Missed pay: If an employer has missed the payment due to changes in shift hours or overtime, it will be adjusted in the retroactive pay.
- Bonuses and commission: If the bonuses or commission is not paid in a payroll cycle, it is compensated as a retro adjustment.
- Wrongful termination: In cases where the services of an employee are wrongfully terminated, the employee is eligible to receive accurate compensation.
- Multiple roles, one pay solution: If an employee handles multiple roles in an organization with differential pay, the chances of miscalculating the compensation are high. In such cases, the organization needs to make retro adjustments.
- Shift differential: The payment for shift differential is generally given to employees who work in the evening or midnight shifts. The employee can negotiate the shift differential rates with the employer. In case of miscalculation in shift timings, retro pay adjustments are made.
Retro adjustment meaning can be understood with the explanation mentioned above. The adjustments are needed to pay fair compensation to employees.
How Long Does an Employer Have to Pay Retroactive Pay?
According to the Fair Labor and Standards Act (FLSA), an employee must receive the retroactive payment within 12 days after a payroll cycle. The timeframe for the payments can change according to specific circumstances and applicable laws in a given jurisdiction. If the need for retro adjustments arises due to overtime, missed pay, shift differential, and other similar factors; the payment period is decided according to the employment agreement. However, the companies should compensate for retroactive pay at the earliest to remain compliant with wage and labor laws.
How to Calculate Retroactive Pay?
Retro pay is calculated for salaried and hourly employees. The calculation depends on the difference between the old and the new wage rate. Here is a detailed outline of how to calculate retro pay for salaried and hourly employees. To calculate the retro adjustments for an hourly employee, the employer needs to know the number of hours for which the wages were miscalculated. They need to make salary adjustments according to the new wage rates.
How to calculate retro pay for salaried employees?
The employer must know the gross wage per paycheck to calculate retro pay for a salaried employee. They should also know how much the employee was actually paid in each payment cycle. The difference between the old and new gross wages is adjusted in the retro pay.
When calculating retro pay, employers must withhold taxes and other salary deductions. The retroactive pay is taxed according to the local and state laws.
Retroactive Pay Law
Retroactive pay law is governed by the Fair Labor & Standards Act and the state retro pay laws in the United States. Here is the detail of both laws.
The Fair Labor & Standards Act: The Fair Labor Standards Act (FLSA) is a federal law in the United States that establishes and regulates various labor standards, including minimum wage, overtime pay, record-keeping requirements, and child labor provisions.
State retro pay laws: Regarding retro pay, state laws primarily focus on wage payments upon an employee’s termination. In numerous states, employers must compensate employees for the wages earned from the previous pay period until the termination date as quickly as possible.
Retroactive pay law in India
In India, the labor court ensures that if any employee is terminated from their job illegally or unfairly, they must be awarded reinstatement along with back wages. However, the question of entitlement of back wages depends on the facts and circumstances of each case.
In a recent case of the Airport Authority of India and Others Vs. Shambhu Nath Das, Honorable Supreme Court held that nobody could be directed to claim back wages for the period they remained absent without leave or justification.
In India, the Supreme Court or the State Court handles each case related to back wages. Their jurisdiction depends on the complexity of each case.
How is Retro Pay Taxed?
Retroactive pay is taxed as regular income for tax purposes in India. Retro pay is added to the individual’s income for the financial year in which it is received. It will be taxed at the applicable income tax slab rates for that financial year. The tax rate will depend on the total income of the individual, taking into account both the regular salary and the retro pay.
Retro Pay vs. Back Pay
Back pay and retro pay may seem similar, but these are totally different concepts. Back pay refers to the payment demanded by employees when they are not paid at all for a pay period.
Retro pay is payments made for shortfalls in wages. This payment is made after the end of a pay period and occurs due to taking the wrong pay rates or miscalculating the number of hours worked.
Example of Retro Pay:
Imagine you work for a company that recently implemented a salary increase for all its employees, effective from January 2023. However, due to some administrative delays, the new salary structure was not implemented until July 2023. As a result, you were underpaid for the period from January to June 2023 based on the new salary rates.
In August 2023, the company processes the retroactive payment to compensate you for the salary difference from January to June. The additional payment you receive in August, covering the shortfall for those previous months, is considered “retro pay.”
Example of Back Pay:
Now, let’s consider a situation where you work for a government organization, and your promotion was approved in January 2022. However, due to bureaucratic processes and delays, the promotion order didn’t get executed until January 2023. As a result, you were not receiving the increased salary corresponding to your new position for the entire year of 2022.
In February 2023, the government processes the backdated salary increment to make up for the salary difference from January 2022 to January 2023. The additional payment you receive in February, covering the salary increase for the previous year, is referred to as “back pay.”
Both retro pay and back pay aim to compensate employees for the salary or wage adjustments they were owed for past periods, but due to administrative or other reasons, the payments were delayed. It’s important to note that the tax treatment of these payments in India would depend on the factors mentioned in the previous response and the specific circumstances of each case.