On-Demand Pay: Benefits, Challenges and Next Steps

Authors: Rena Pirsos, Brightmine Legal Editor, Natasha K.A. Wiebusch

Date: March 17, 2023

On-demand pay is becoming one of the HR industry's hottest financial wellness benefits and it has employers buzzing. It allows employees to choose when and how often to receive their accrued pay, in some cases allowing employers to remove most limits on pay frequency.

Though it has its benefits, early adopters are realizing that implementing it is not as easy as pressing play... or rather, pay. From regulatory hurdles to choosing a provider, offering this benefit has formidable challenges.

What is On-Demand Pay?

On-demand pay, also called earned wage access, is an employee benefit that allows employees to receive a percentage of pay they have already earned before their regularly scheduled payday or between pay cycles.

Although models vary, generally, an employer contracts with a third-party provider to offer on-demand pay to employees. The provider usually transfers the pay directly to the employee's bank account, a mobile or desktop app, pre-paid debit card or payroll card, and the employee can gain immediate access.

Depending on the model, employers may be able to control the number of withdrawals per pay period and set a maximum withdrawal percentage. Whether employees can be charged a fee for withdrawals depends on the model used as well as various state laws.

Is On-Demand Pay Really That Good?

On the surface, on-demand pay may seem like just another convenience tool, but the benefits to employees run much deeper, particularly when it comes to financial flexibility and wellness.

Financial Wellness

One of the more notable benefits of on-demand pay is that it improves financial wellness for all employees, and particularly those experiencing financial stress. This could be a significant portion of an organization's workforce, as 63% of Americans are living paycheck-to-paycheck according to a recent report by LendingClub. Additional research illustrates a poor state of financial health for today's workforce:

• 72% worry about or find it challenging to meet everyday expenses;
• 56% would be unable to cover an unexpected $1,000 bill; and
• More than one-third fall short on an expense between pay periods.

On-demand pay can have a significant positive impact on these wage earners. By providing almost immediate access to earned wages, on-demand pay can provide employees with needed flexibility to meet their monthly financial needs, whether expected or unexpected.

Employee Well-Being

Beyond financial wellbeing, research shows that on-demand pay helps improve physical and mental health and thereby employees' general well-being. According to a report by Immediate, an on-demand pay provider, an overwhelming majority of employees report that financial stress negatively impacts not only their physical and mental health but also, ultimately, their job performance.

Recruitment and Retention

What's clear is many employees want this benefit. For instance, a recent Ceridian study found that 83% of surveyed US workers between ages 18 and 44 believe they should have access to on-demand pay, signaling very strong increased interest in the benefit. This increase can be attributed to:

• High inflation increasing the cost of living, which increases financial pressures on employees;
• An increased focus on the employee experience spurred by employee demands for better benefits from their employers; and
• Increased need for cash advances, which increased threefold between 2018 and 2022.

Challenges of On-Demand Pay

Though on-demand pay has its advantages for employees, challenges to implementing and managing this benefit persist. And they shouldn't be ignored.

Legal Implications

Employers considering offering it as a wage payment option should be mindful of all potential state and federal laws when deciding whether to offer on-demand pay as a benefit. At the state level, some of these include:

• Whether there are any applicable state on-demand pay laws or regulations;
• Whether state laws regarding pay deductions or wage assignments come into play;
• Whether any hidden employee transaction fees would unlawfully reduce an employee's pay below the minimum wage;
• When and how to withhold and deposit associated employment taxes; and
• When to make required deductions for things like fringe benefits, creditor garnishments and child support orders.

And there are still some important unresolved issues at the federal level. For example, more clarification is needed from the Consumer Financial Protection Bureau (CFPB) on whether early access to wages is a loan or an extension of credit under the Truth in Lending Act and Regulation Z (which provides various consumer credit protections relating to loans). Based on a CFPB advisory opinion issued in 2020, lending laws would apply to early wage access under certain conditions, such as if employees must pay a fee to access their wages before payday.

Also, because the Internal Revenue Code (IRC) does not yet address on-demand pay procedures, there is a lack of direction regarding when employers should withhold and deposit the associated employment taxes. This may cause some employers to end up being out of compliance.

The problem is important enough that the Biden Administration's Fiscal Year 2024 Revenue Proposals include a proposal to amend the IRC to define on-demand pay arrangements, clarify that they are not loans, and establish a weekly payroll period for on-demand pay as well as special payroll deposit rules. Such legislation would help alleviate these concerns by standardizing and simplifying the administration of on-demand pay arrangements.

Provider Selection

Not all on-demand pay providers are equal. Some may offer certain features and integration capabilities that work for one organization but not for others. Before selecting a provider, employers should conduct thorough research and due diligence to ensure the provider is a safe and reputable company and a good fit for their business.

For example, selecting a provider that already has a relationship with the employer's current third-party payroll service will foster trust in the provider. It will also enable easier integration of the program into the employer's existing payroll system, simplifying its implementation and management.

Liability and Security Breaches

Before signing on the dotted line with a program provider, it is critical to iron out who is contractually on the hook for payroll errors - the provider or the employer - in the event any occur. Also, important security issues relating to things like employees' personal data privacy, employee training, encryption, network security and access controls, should not be overlooked.

Increased Work Hours

Though on-demand pay providers under most models bear responsibility for the proper function of the service, there may be additional work required of an employer's compensation and benefits team. This may include answering employee inquiries, ensuring the balance between the organization's financial ledger and payroll deductions, and validating that taxes are properly deducted. So, before investing in an on-demand pay solution, leadership should understand the headcount implications of implementing and maintaining it.

Financial Health of the Business

Allowing employees to transfer their earned wages at any time impacts a company's financial reporting. Mainly, this makes it more difficult to understand the company's cashflow since the money is flowing out at unpredictable times. When implementing an on-demand pay program, compensation leaders must be ready to deal with these and other challenges that may make it more difficult to measure the business's financial health.