Addressing the Timing Gap: Month-End Payroll Tax Accruals and Reversing Entries

Understanding Payroll Tax Accruals: A Month-End Guide

Your month-end close is approaching, but your pay cycle does not align with the calendar. It’s a common scenario for a growing startup: you pay your team on the 25th, but financial reports must close on the 31st. Those final days of the month represent real wages earned and employer payroll taxes owed, creating a hidden liability. Ignoring this gap can distort your burn rate, leading to surprise cash shortfalls and difficult questions from investors during diligence. Getting this right is about maintaining a precise understanding of your financial position. Properly recording payroll tax accruals is a key step in building a resilient financial foundation for your company, ensuring your month-end close process is accurate and trustworthy. For more on this topic, see the benefits accounting hub for related accrual guidance.

The Core Problem is a Simple Timing Gap

At its heart, a payroll accrual solves a mismatch between when work happens and when your books close. The period between your last payroll run of the month and the actual month-end is often called the “stub period.” For example, if your last pay period ends on December 24th, the work done from December 25th to December 31st represents an expense incurred in December, even if you do not pay employees for that time until January. Accrual-based accounting demands that you recognize expenses in the period they are incurred, not when cash changes hands. This is why payroll accrual is a foundational element of GAAP-compliant accounting.

Think of it this way: your team earned wages and you, as the employer, incurred related tax liabilities during that stub period. The payroll accrual is a journal entry that captures these costs on your December income statement and records a corresponding liability on your balance sheet. This ensures your financial statements for December are complete and accurate. Without this step, your expenses would be understated, and your profit or loss would be overstated for the month. This small timing gap can have a significant impact on financial reporting, especially for R&D-heavy biotech or deeptech startups needing to track costs meticulously for tax credits and grant reporting.

For UK companies following FRS 102, the principle is identical. The “matching principle” requires that costs are matched to the period in which they helped generate revenue. Recording accrued payroll ensures your financials present a true and fair view of the company’s performance for the month, which is essential for reporting to stakeholders and making informed business decisions.

How to Record Payroll Tax Accruals: A Step-by-Step Process

For most early-stage startups, a precise, to-the-penny calculation for the payroll accrual is unnecessary. A reasonable, pro-rata estimate is sufficient for accurate financial reporting and is a standard industry practice. What founders find actually works is a simple, repeatable process that can be done quickly in a spreadsheet and booked in accounting software like QuickBooks or Xero. This payroll accrual process ensures consistency and accuracy in your month-end close.

Step 1: Calculate Pro-Rata Wages for the Stub Period

The calculation is straightforward. You will need three pieces of information: your total gross payroll for the most recent full pay period, the number of business or calendar days in that pay period, and the number of business or calendar days in the stub period. Using calendar days is often simplest for salaried employees.

• Formula: (Total Gross Payroll / Days in Period) * Stub Period Days = Accrued Wages

Consider a US-based SaaS startup with a total monthly gross payroll of $150,000. Their last pay date was March 25th. For the March month-end close:

• Total Gross Payroll: $150,000
• Days in Month (March): 31
• Stub Period Days: 6 (March 26, 27, 28, 29, 30, 31)
• Calculation: ($150,000 / 31) * 6 = $29,032.26

This startup needs to accrue $29,032.26 in wage expenses for March. For companies with a large number of hourly workers, like in e-commerce fulfillment or professional services, using business days instead of calendar days may provide a more accurate estimate.

Step 2: Estimate Employer Payroll Taxes on Accrued Wages

Next, you must accrue the employer's share of payroll taxes on those wages. This is a critical part of tracking your payroll liabilities and ensuring employer tax compliance. The specifics vary by location.

• For US companies, this includes FICA (Social Security and Medicare), FUTA (Federal Unemployment Tax Act), and SUI (State Unemployment Insurance). The IRS notes that the employer portion of FICA (Social Security & Medicare) is a flat 7.65% on wages up to the Social Security wage base, which is $168,600 in 2024. Because FUTA (Federal Unemployment Tax Act) and SUI (State Unemployment Insurance) rates vary by state and employee wage history, calculating the exact amount can be complex. For this reason, a blended employer tax rate of 8-10% is a common starting point for estimation in the US. This is one of the most useful payroll accounting tips for early-stage companies seeking a practical method.
• In the UK, the system is different. As the government outlines, the equivalent employer tax is the Employer's National Insurance Contributions. The principle is the same: you calculate the pro-rata wages and apply the relevant NI rate. The rates are tiered based on employee earnings. You can find the most current figures on the government's website, as HMRC publishes National Insurance rates and thresholds annually. For a UK-based business, you would apply the appropriate Class 1 National Insurance rate to the accrued gross wages.

For our US SaaS startup example, we will use a 9% blended rate for simplicity: $29,032.26 * 9% = $2,612.90 in accrued employer payroll taxes.

Step 3: Book the Accrual Journal Entry

With your numbers calculated, you can now create the journal entry in QuickBooks or Xero. This entry debits your expense accounts, increasing your expenses for the period, and credits your liability accounts, increasing what you owe. The entry correctly places the costs in March while acknowledging the cash has not yet been paid.

Here is how the journal entry would look for our example:

• A debit to Salaries and Wages Expense for $29,032.26. This recognizes the wages earned by employees in March on the income statement.
• A debit to Payroll Tax Expense for $2,612.90. This recognizes the employer's share of taxes on those wages in March.
• A credit to Accrued Wages Payable for $29,032.26. This creates a liability on the balance sheet, showing the company owes these wages.
• A credit to Accrued Payroll Taxes Payable for $2,612.90. This creates a corresponding liability for the taxes owed to government agencies.

You can find additional resources on how to handle this in your accounting software, such as the QuickBooks accrued payroll guide.

Step 4: Create the Reversing Journal Entry

The final, crucial step is to book a reversing journal entry dated the first day of the next month, in this case, April 1st. This entry is the exact opposite of the accrual entry you just made. Its purpose is to zero out the liability accounts and ensure you do not double-count expenses when you run and book your actual payroll in April. Your payroll system, like Gusto or Rippling, will record the full payroll expense for the pay period. The reversing entry ensures the portion you already expensed in March is properly canceled out, preventing a material overstatement of expenses in April. Forgetting this step is a common error that complicates future reconciliations.

Best Practices for Payroll Accruals by Startup Stage

Your process for how to record payroll tax accruals should evolve as your company grows. A process that works for a 5-person e-commerce team will not suffice for a 50-person biotech company with complex grant funding requirements.

Pre-Seed and Seed Stage: Manual and Consistent

The reality for most Pre-seed startups is pragmatic: a simple spreadsheet is enough to manage this calculation. At this stage, your team is small, and payroll is relatively stable. The goal is consistency, not perfection. Use the pro-rata method, document your assumptions like the blended tax rate, and book the entry manually in QuickBooks or Xero each month. Add this task to your month-end payroll checklist to build good financial habits from day one. This simple discipline addresses the pain of last-minute reconciliations and builds a trustworthy financial record.

Series A: Semi-Automated and More Precise

As your headcount grows past 20, manual processes become prone to error, and the risk of miscalculation increases. Poor integration between payroll systems and the general ledger can force last-minute reconciliations that erode founder credibility with investors. At Series A, the focus shifts to leveraging your tools. Payroll platforms like Gusto and Rippling offer robust reporting that can provide more accurate data. You can often pull a report of gross wages earned during the stub period for a more precise calculation than the simple pro-rata estimate. While you may still book the journal entry manually, data gathering becomes faster and more reliable. This is also the stage where navigating differing UK, federal, and state rules becomes more challenging, making accurate data from your payroll system essential for avoiding miscalculations and potential penalties.

Series B and Beyond: Automated and Reconciled

By Series B, your finance function is maturing. The goal is full automation of the payroll accrual journal entry, ideally synced directly from your payroll or HRIS platform into your ERP system. The finance team’s role transforms from performing the calculation to reviewing the system-generated entry for reasonableness. The focus intensifies on payroll tax reconciliation, where you regularly compare the taxes accrued and paid per your general ledger against actual payroll tax filings. In the US, this involves reconciling with Form 941, while in the UK, it means checking against Real Time Information (RTI) submissions to HMRC. This process validates that your systems are working correctly and that you are compliant, preventing the kind of surprise cash shortfalls that can derail a scaling company.

Practical Takeaways for Founders

Mastering the payroll accrual process is not an arcane accounting exercise; it is a fundamental component of sound financial management. It provides a true picture of your monthly expenses, improves the accuracy of your burn rate calculations, and builds trust with your investors by demonstrating financial discipline. It is a key element of effective payroll liabilities tracking.

For founders leading their own financials, the path forward is clear:

1. Identify the Stub Period: Determine the gap between your final pay period end date and the calendar month-end.
2. Estimate with a Formula: Use the pro-rata formula to calculate accrued wages. An estimate is perfectly acceptable at the early stages.
3. Apply a Blended Tax Rate: For US companies, an 8-10% blended rate for employer payroll taxes is a reliable starting point. For UK companies, reference the latest Employer's National Insurance rates from HMRC.
4. Book the Accrual Entry: At month-end, debit your expense accounts and credit your accrued liability accounts in QuickBooks or Xero to reflect the costs incurred.
5. Reverse the Entry: On the first day of the following month, post an identical but reversed journal entry to clear the accrual and prevent double-counting.

Start simple with a spreadsheet and a calendar reminder. As your startup scales from Seed to Series A and beyond, lean more heavily on the reporting and integration capabilities of your payroll platform. This small but critical step in your month-end close process is a building block for sustainable growth, giving you the clarity needed to manage your runway effectively. Continue your learning at the benefits accounting hub for deeper topics.

Frequently Asked Questions

Q: What happens if I forget to post a reversing entry for my payroll accrual?
A: Forgetting the reversing entry will cause you to double-count expenses in the next month. Your payroll system will record the full expense when payroll is processed, and the original accrual will remain. This overstates your expenses and understates your profit, requiring a manual correction to fix your financial statements.

Q: Is a pro-rata estimate always accurate enough for my payroll accrual process?
A: A pro-rata estimate is generally sufficient for early-stage startups. However, as your company grows and has more hourly employees, variable overtime, or complex commission structures, its accuracy may decrease. At that point, using detailed reports from your payroll system to calculate actual wages earned in the stub period is a best practice.

Q: How does this payroll accrual process differ for salaried vs. hourly employees?
A: The principle is the same, but the calculation method may differ. For salaried employees, a simple pro-rata calculation based on calendar days is usually accurate. For hourly employees, it is better to estimate the actual hours worked during the stub period and multiply by their pay rates for a more precise accrual.

Q: Do I also need to accrue for employer contributions to benefits like pensions or health insurance?
A: Yes, any employer-paid benefit that is tied to the payroll period should also be accrued. This includes contributions to retirement plans (like a 401(k) in the US or a workplace pension in the UK) and health insurance premiums. The calculation is similar: determine the pro-rata share of the benefit expense for the stub period.