Workers' Comp Audit Payroll: What Counts and How Codes Split

Audit payroll is total remuneration, meaning money or substitutes for money paid or payable for employees' services, less a short list of items the rules let you leave out. The North Carolina Rate Bureau's Basic Manual (Rule 2, revision effective 2024-01-01) defines payroll and remuneration in those terms. Beacon Mutual's audit deck lists the money items as gross wages, commissions, bonuses, holiday pay, vacation pay and allowances for tools, and the substitutes as the rental value of housing, meals or lodging and the value of merchandise received as pay, to the extent they appear in the payroll records. Zenith adds wages reported on Form W-2, flat auto allowances and the retail value of parts or materials given to employees.

Two habits follow. Start from gross pay before deductions: Beacon Mutual's mail-audit form says gross payroll, including all pre-tax deductions, is required. And treat every exclusion as something your records earn. The overtime premium, tips and expense reimbursements come out only when your books show them apart from regular wages, which is why most of this guide is about pay codes and time records.

Payments to subcontractors can land in audit payroll too, when a sub can't show its own workers' comp policy. The subcontractors and certificates guide covers that side. Many carriers follow the NCCI approach, but state manuals and each carrier's filed rules differ, so read the examples below as the common pattern and your carrier's page as the authority.

Most pay is counted, a handful of items come out when records support it, and carriers word the details differently. The table shows the usual treatment and who says so.

The employee's own pre-tax 401(k) deferral is still pay the employee earned, so it stays in gross pay. The employer's match is a separate contribution, and the carriers that address it leave it out.

Only the extra pay above straight time comes out of audit payroll, and only when your records separate it by employee and class. Travelers says that where separate records are kept, one-third of overtime paid at time and a half and one-half of overtime paid at double time can be excluded, and that this does not apply to workers' compensation in Delaware and Pennsylvania. Beacon Mutual's mail-audit form excludes one-third of gross overtime. The North Carolina Basic Manual (Rule 2-C-2) makes the exclusion depend on books that show overtime pay separately by employee and in summary by classification, and adds two limits: no deduction for hours over 40 when the hourly rate doesn't go up, and night, weekend or holiday pay that is simply the normal rate for that shift is not overtime.

Zenith's published example shows the arithmetic. An employee works 40 regular hours at $10 and 5 overtime hours at $15.

Illustrative check you can reuse: ten overtime hours on a $20 base wage cost $400 at double time or $300 at time and a half. Half of $400 or a third of $300 comes out, $200 or $100, and in both cases the straight-time $200 stays in payroll. If an exclusion ever takes out more than the premium over straight time, recheck it. In your payroll software, keep regular hours, overtime hours and the overtime premium as separate pay codes.

Tips generally stay out when your records separate them from wages, and per diems stay out when they are verified business expenses paid on top of wages. Travelers answers the tips question with "No, provided your records separate tips from regular wages," and notes this doesn't apply in Montana for workers' compensation. Beacon Mutual and Amerisure also exclude tips. Rule 2-B-2-a of the North Carolina Basic Manual defines tips as optional payments added to a bill where the customer decides the amount, decides that employees receive it and can choose not to add it. A mandatory service charge added to every check doesn't fit that wording on its face, so ask your auditor how yours is treated. For a restaurant, declared tips from the point-of-sale system sit in their own pay code, and tip reports are kept with the payroll registers.

For per diems and reimbursements, Rule 2-B-2-h lists four tests: your verifiable records confirm a valid business expense, each employee's amount is shown separately, the amount approximates the actual expense, and the payment is in addition to wages rather than in place of them. Under Rule 2-B-1-w, reimbursements and flat allowances your records don't confirm count as payroll. Rule 2-B-2-i adds a fallback of up to $75 a day when an employee was verifiably away overnight on business and no daily expense records exist. Beacon Mutual and MEM both list business expense reimbursements among the items to show separately.

The pattern matches overtime: a reimbursement is excluded because a receipt, mileage log or travel report proves it, so attach the proof to the payroll entry when it is made.

A worker's pay can be split only when more than one class applies to your business and you keep records of the actual time or pay in each. Travelers puts the principle in one sentence: "It is the overall business that is classified, not each employee or duty." The North Carolina Basic Manual (Rule 2-G-2-b) states that "Estimated or percentage allocation of payroll is not permitted," and if the records don't support a split, the employee's entire payroll goes to the highest-rated class. Builders Mutual's audit kit says the same: without actual payroll records, assign the employee to the highest-rate class the employee has exposure to.

Some classes are never split. Travelers names clerical 8810 and outside sales 8742. MEM's checklist adds executive supervisor 5606 and construction job-site salespeople and estimators 8720 to the list that can't be split with any other code. Beacon Mutual's deck lists the standard exception classes as clerical 8810, clerical telecommuters 8871, drivers 7380, outside sales 8742 and automobile sales 8748. For contractors, Beacon's deck says each distinct type of construction or erection operation takes its own class only if separate payroll records are kept for each operation; otherwise the highest-rated class for the job applies.

The tree below shows the order of questions an auditor works through. It reflects the common NCCI approach, and states differ on when a split is allowed outside construction, so your carrier decides which branch applies.

The auditor accepts original records of actual time or pay in each class, summarized in your accounting records, and does not accept estimates. Oregon Administrative Rule 836-042-0060 spells out the standard. Verifiable records must establish a time basis, describe the duties performed so the class can be assigned, and rest on original entries such as time cards, calendars, planners or daily logs. Estimated ratios or percentages are not acceptable, and records that need further explanation are not verifiable. Where required records aren't kept, the whole payroll goes to the highest-rated class.

The North Carolina manual (Rule 2-G-3) adds a detail owners rarely see coming: pay not tied to one class, such as holiday, vacation, sick or overtime pay, goes to the class where that employee has the greatest payroll.

Illustrative: a technician earns $30 an hour and logs 1,200 hours on HVAC jobs and 800 on plumbing jobs, plus $1,500 of holiday pay. Which class carries the higher rate depends on your state, so no rates are shown.

With job tickets behind the hours, the $61,500 divides as shown. With no records, all $61,500 goes to whichever class carries the higher rate. Time recorded by job in your payroll or job-costing software is usually enough, and class and location tracking in the books keeps the same split visible every month.

Each trade runs into a different version of the same two problems: workers who cross between classes, and pay that has to be shown separately. The table lists the issues carrier guides describe and the record that settles each one. It names no rates and does not assign a class.

The records follow the sources: Beacon Mutual's deck on separate construction payroll records, Travelers listing casual labor in the cash disbursements journal, the North Carolina manual (Rule 2-H-3) on vehicles with drivers, and an Oregon final order of 2025-06-05, where a cleaning company's subcontractors were counted as payroll. Whether a split is allowed for your trade is the carrier's call.

In some states corporate officers can elect to be excluded from workers' comp coverage, and in every state the carrier needs to know who your officers are and whether they are included. Travelers says workers' compensation laws in some states may permit officers to elect exclusion, tells you to ask your agent for your state's rules and request the forms right away, and asks you to notify it in writing of any new officers during the policy term. Beacon Mutual's mail-audit form asks you to list proprietors, officers, partners, LLC members and managers with their coverage status (included or excluded), duties and payroll.

Officers who are included are counted inside limits. Under the North Carolina Basic Manual (Rule 2-E-1), an executive officer is assigned to the class that fits the principal operations, and premium is based on the officer's payroll between a state minimum and maximum. Those dollar limits sit in a separate values section and change by state, so they are not shown here. The manual also leaves out the payroll of an officer elected for name or stock holdings only, with no duties and no visits to the premises except directors' meetings.

For the audit, keep a one-page officer schedule: name, title, ownership share, duties, whether included or excluded in the policy, and the pay actually received. The checklist guide covers what to send when a business has no employees and no Form 941.

A PEO or staffing arrangement changes who holds the policy, and the audit follows the policyholder's records. Beacon Mutual's deck classifies workers assigned to clients the same as the client's direct employees doing the same or similar duties, and groups a temporary employment agency's payroll by client company. If the client has no direct employees doing that work, the leased workers are classified as if they were the client's own.

The PEO question depends on the contract. A Massachusetts rating-bureau form for client-held policies, the PEO Extension Endorsement WC 20 03 08 (effective April 1, 2020, listed on the bureau's site as a proposed version), says the policy's records and audit clauses in Part Five, Sections F and G, apply to both the client and the PEO. The client must obtain from the PEO, and the PEO must provide, a complete payroll record of the leased workers, and the carrier audits within 90 days of the policy start and may audit interim periods. Where the PEO is the named policyholder instead, your agreement should say what payroll and duty information you must supply and when.

Before audit season, collect four things from the PEO: the policy information page showing the named policyholder, its payroll reports for your leased workers by pay period, the class codes it applied to your workers, and the audit notice. If the classes on those reports don't match what your people do, raise it with the PEO early, since the audit uses the payroll the PEO reported. The PEO and the carrier decide the classes.

Auditors check your payroll register against tax filings, and the differences are almost always pay items that sit in one and not the other. Travelers' preparation page asks for a primary source showing transactions during the policy period plus a secondary source, such as a tax document, that verifies it, and its workers' comp audit page adds that a payroll report can differ from the policy term by up to 30 days. Beacon Mutual's mail-audit form asks for the last four quarters of Form 941 and state filings and has columns for Section 125 and 401(k) amounts, because the quarterly filings treat them differently: its form notes that line 5c of Form 941 leaves out pre-tax Section 125 amounts.

The IRS instructions for Form 941 (03/2026) say line 5c covers wages, tips, sick pay and taxable fringe benefits subject to Medicare tax. That makes tips a built-in reconciling item: they sit inside the Medicare wage line but outside audit payroll.

Register totals, less the excluded codes, should reproduce audit payroll by class. Payroll journals and reconciliations shows how the ledger side is matched each pay run, and payroll platform support covers exports from Gusto, ADP, Rippling and Deel.

A free payroll-to-Form 941 tie-out sheet lays this out as a CSV: one row per quarter with the register, the Form 941 line 2 figure, the state wage report and the ledger side by side, and a column for the reason behind each difference. Its example rows are Illustrative, not client data.

We organize payroll by class code from your records. We organize payroll records, track subcontractor certificates and can attend your premium audit with you where your carrier allows it. We do not sell or advise on insurance coverage. Your carrier assigns class codes.

For payroll that means building a pay-code map from your payroll platform, exporting hours and pay by employee and by job, preparing the schedule of excluded items with the report behind each one, and tying the register to your Forms 941 and state wage reports, all for your review before the auditor arrives. Your carrier's auditor decides what counts as payroll and which class applies, and your agent or counsel advises on coverage and on whether an officer should be included.

If your job costing or payroll classes need cleaning up first, monthly bookkeeping is where that starts. For the other half of the audit, see the guide on subcontractors, 1099s and certificates of insurance.