PAYE (Pay As You Earn) is the system that HM Revenue & Customs (HMRC) uses to collect income tax and national insurance contributions (NICs) from employees’ pay as they earn it. The term ’employee’ in this guide includes directors of limited companies.
As an employer, you’ll have to deduct tax and NICs from your employees’ pay each pay period and pay Employer’s Class 1 NICs if they earn above a certain threshold. You pay these amounts to HMRC monthly or quarterly. If you don’t send the correct amount, or if you send it in late, you may have to pay interest. At the end of the tax year – and no later than 19 May – you must send HMRC a final Full Payment Submission (FPS) on or before your employees’ last payday of that tax year. Almost all employers are required to send their returns online.
This guide gives a basic overview of what you need to do to operate PAYE including which forms you’ll need and key dates.
Employers’ responsibility for PAYE
As an employer you have a legal obligation to operate PAYE on the payments you make to your employees if their earnings reach the National Insurance Lower Earnings Limit (LEL). For the tax year 2021-22 this is £120 a week or £520 a month.
You use the employee’s tax code and national insurance category letter to work out how much Income Tax and NICs to deduct from their pay and how much Employer’s Class 1 NICs you owe on their earnings. By the 19th of each following month – or by the 22nd if you make electronic payments – HMRC must have received the amounts owed for the tax month ended. You may be able to send the amounts due every quarter if your average monthly payments are likely to be less than £1,500.
What payments do PAYE apply to?
PAYE is applied to all the payments that an employee receives as a result of working for you, including:
- salary and wages
- overtime, shift pay and tips – unless these are paid directly to your employee or they come out of an independent ‘tronc’
- bonuses and commission
- certain expenses allowances paid in cash
- statutory sick pay
- statutory maternity, paternity or adoption pay
- lump sum and compensation payments – like redundancy payments – unless they’re exempt from tax
- non-cash items like vouchers, shares or premium bonds – you apply PAYE to the cash value of items like this
PAYE on expenses and benefits
Different tax and NICs procedures apply to expenses and benefits – such as company cars or medical insurance – that you provide to your employees. In certain cases you’ll have to operate PAYE on the value of an expense or benefit in the same way as for the various payment types listed above. But more typically you’ll need to report the expenses or benefits you’ve provided to HMRC at the end of the tax year and make a one-off payment of Class 1A NICs on the value of some of them.
Other deductions under PAYE
As well as deducting income tax and NICs from your employees’ pay each pay period, you might also use the PAYE system to deduct other items, like:
- student loan repayments
- employees’ pension contributions
- payments under an attachment of earnings order
- repayment of a loan you’ve made to an employee
You’ll have to give each of your employees a pay statement, or payslip, at or before the time that you pay them. This can be in either paper or electronic format but it must show certain items, including each employee’s gross pay (before any deductions are made), all deductions and the purposes for which they are made, and the net amount payable after the deductions have been made (also known as take home pay). If you don’t give your employees an itemised payslip they could complain to an employment tribunal.
At the end of each tax year you must give them a summary of their pay and deductions on a form P60. You must do this for each employee who was working for you at April 5th whose earnings reached the national insurance lower earnings limit during the tax year (this must be in paper format and must be given to the employee before June 1st following the end of the tax year).
For more information on managing PAYE, click here.