According to Price Waterhouse's booklet, Effective Internal Accounting Control for Nonprofit Organizations: A Guide for Directors and Management, the objective of internal controls for payroll are to ensure that payroll disbursements are made only upon proper authorization to bona fide employees, that payroll disbursements are properly recorded and that related legal requirements (such as payroll tax deposits) are complied with.

Each employee should have a payroll/personnel file, containing updated salary, benefits, employment status, and withholding information, as well as beginning date of employment and termination date, when applicable. A personnel manual should describe the organization's policies, established by the board, regarding vacations, holidays and sick leave. Records should be kept for each employee to ensure that these policies are being followed. Accountants recommend that the organization retain these records for six to seven years after the employee has been terminated (and possibly longer if that employee participates in a pension plan.)

The time sheet is the most common tool used to document employee hours (including overtime) and authorize payments to employees. Time sheets can be designed to incorporate information regarding vacation, sick leave, and holidays. Time sheets are usually submitted by the employee to his or her immediate supervisor for signature, and may also be reviewed periodically by senior management. Ideally, the person authorizing an employee's hours does not also prepare the paychecks.

Payroll checks should be written in keeping with the procedures for all other cash disbursements. Additional segregation of duties related to the payroll function include having someone other than the payroll check signer:

• Hold unclaimed paychecks.
• Review the payroll register and post payroll to the general ledger.
• Many organizations choose to have a separate checking account for payroll that is used for issuing paychecks. A payroll register, listing who was paid, how much, and check number is maintained, either as a subsidiary journal if there is a separate payroll account, or as part of the cash disbursements journal when payroll is integrated with other cash disbursements in a manual system. Some organizations require that employees sign the employee register to acknowledge receipt of their paycheck.

The following questions reflect common internal accounting controls related to payroll. You may wish to use this list to review your own internal accounting controls and determine which areas require further action.

• Are detailed time sheets required to document employee hours, including overtime?
• Are time sheets signed by the employees’ immediate supervisor authorizing payment for work?
• Are employment records maintained for each employee that detail wage rates, benefits, and any changes in employment status?
• Do written policies and procedures exist for accounting for vacations, holidays, sick leave, and other benefits?
• Is a separate payroll bank account maintained?