The Payroll source documents are the employee Time Sheets (or equivalent) that record when the employee worked and generally what they did. These records are subject to audit by the Labor Department, EEOC and probably others that I haven't encountered. These should be bound into a Payroll Source Document folder.
However, there are other employee documents that need to be retained, e.g., their original employment application, employee reviews (if you do them),that record their federal/state tax exemption choices,reporting their annual wages and withholdings, etc.
These can be filed in separate Employee files (by employee name or number) -- or simply integrated into the Payroll Source Document folders (in the week in which they occur). I very much favor the latter -- especially if you're doing computer accounting -- in keeping with my "always file chronological" bias.