In the UK, the PAYE (Pay As You Earn) system is a straightforward way for HMRC to collect income tax and National Insurance contributions from employees’ earnings. Under this system, employers deduct the appropriate amounts from each employee’s salary or wages every pay period. These deductions are based on tax codes provided by HMRC, which take into account factors like personal allowances, benefits, and other income sources.
Employers are responsible for calculating and withholding these payments, ensuring they are sent directly to HMRC. This process helps employees manage their tax obligations by spreading the tax payments evenly throughout the year, reducing the risk of unexpected tax bills. Additionally, the PAYE system simplifies tax administration for both employees and HMRC, providing a consistent and efficient method for collecting taxes.
Employers must pay Class 1A NIC on benefits by 6 July after each tax year. When hiring your first employee, you might feel overwhelmed by the paperwork and regulations. Tax rates, allowances, and regulations frequently change, making it hard to stay updated. For those with only a few employees, it is often simpler to have your accountant or a payroll agency handle the payroll.
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Application of PAYE
PAYE applies to all types of payments made to employees, including:
- Salary and wages
- Bonuses and commissions
- Overtime
- Tips
- Expense allowances and claims when paid in cash
- Statutory Sick Pay
- Statutory Maternity/Paternity/Adoption Pay
- Lump sum and compensation payments, including redundancy, unless exempt from tax
- Payments other than cash, such as shares or vouchers
Certain benefits provided to employees may be exempt from tax, but most are taxable and must be declared to HMRC using an end-of-year benefits form P11D or P9D.
New Employees
Every employee has a tax code issued by HMRC, which is provided to the employer. For new employees, this tax code is found on the P45 form they bring from their previous job. Employers use this form, along with the relevant tax and national insurance tables, to calculate the tax and NI deductions.
If an employee doesn’t have a P45, you and the employee must complete a P46 form to obtain a tax code. In the meantime, use the tax code indicated in section 2 of the P46 form.
The Pay As You Earn (PAYE) Paperwork
The PAYE system involves numerous forms, but all employers commonly use several key forms:
- Payslips: Issued by you to employees, these show how their pay was calculated and the deductions made.
- Form P45: Provided by new employees from their previous employer, and given by you to employees who leave.
- P11 Deductions Working Sheet: This records all salary and NIC payments made, either manually or electronically.
- P14/P60: An end-of-year summary was given to employees and sent to HMRC.
- P35: The Employer’s Annual Return, summarizing all deductions made from employees in the year up to 5th April.
- P11D: Used at the end of each tax year to report benefits and expenses paid to employees earning over £8,500 and all directors.
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