If you’re starting to employ people in your business, mastering payroll is going to become an essential part of your business. Get it wrong and you risk unhappy employees and potential penalties from HMRC.
There’s a lot more to it than simply paying staff money. So we’ve put together this guide to help you get it right and stay in line with what HMRC expects.
What is Payroll?
Payroll refers to a number of different functions but generally refers to the process of calculating an employee’s pay. The process includes:
- Calculating net and gross pay, SSP and National Insurance
- Calculating PAYE
- Making the appropriate deductions from pay, including income tax and National Insurance
- Paying employees and providing them with pay slips
- Submitting information to HMRC
PAYE or Pay as Your Earn is HMRC’s system to collect Income Tax and National Insurance from employees. If you employ people, you’ll normally have to operate PAYE as part of your payroll.
You won’t need to apply PAYE if none of your employees are paid £120 a week or more (2020/21). However, you will still have to keep payroll records.
How to get started with payroll
The first thing you need to do as an employer is register with HMRC as an employer. This will allow you to enroll to use HMRC Online Services and will give you a login for PAYE Online.
With the Online Services you’ll be able to send payroll reports to HMRC, access tax codes for your employees, appeal any penalties, register for email reminders and get alerts if you report or pay late.
The next thing to do should be to choose payroll software that you’ll use to record employees’ details, calculate pay and salary deductions so that you can easily send this to HMRC.
What does HMRC require from businesses?
When you run payroll for your employees, you must do the following on or before the employee’s pay day:
- Make a record of their pay
- Calculate any deductions like income tax and National Insurance
- Create pay slips for employees
- Calculate employer’s National Insurance contribution which you’ll have to do if your employee earns above £157 a week
- Report all pay and deductions to HMRC in a Full Payment Submission (FPS)
Sending payroll reports
Businesses will need to submit details of anyone they have on payroll, whether they’re subject to income tax or not. You can do this by entering your PAYE Online login details into whatever payroll software you’re using.
If you’ve paid employees but haven’t sent a FPS or send one late, HMRC will send you a late filing notice.
They may charge a penalty unless you have a good reason for reporting late. The penalties start from £100 a month for companies with 1 to 9 employees and rise to £400 a month for those with 250 or more employees.
Paying what you owe
Employers must also pay part of an employee’s Class 1 National Insurance through their PAYE bill. The amount you pay will be dependent on how much the employee is earning. You can take a look at the employer rates table here.
Paying your staff
Once you know what’s expected of you as an employer, the next step is to actually start paying your staff. It’s important that this is done accurately and timely.
The pay you offer employees must be in line with current laws on minimum wages.
The National Living Wage is currently (2020/21) at £8.72 per hour for over-25s.
Calculating gross pay
To calculate gross pay, the payroll department must know the fixed amount, the frequency of payment (week or month), rate per hour worked, and the amount per achievement if pay is commission based.
In order to work out an hourly rate, you’ll need a system for recording hours worked, such as a timesheet or clock card. If payments are commission based, there must be a system to notify payroll of these amounts.
In order to calculate net salary you must make deductions from the gross salary which will show what the employee will really be receiving.
The following must be deducted from gross salary, although there may be more depending on the individual cases:
- Income Tax
- Employee National Insurance Contributions
- Student loan deductions (if applicable)
- Pensions contributions (unless they have opted out or are ineligible)
Details of all deductions must be clearly stated on the employees pay slip where applicable.
Under the Employment Rights Act 1999 section 8, every employee is entitled to a pay slip each pay day. Companies can choose to put extra information on their pay slips but, as a minimum, all must include the following:
- Gross pay
- Amount of deductions (tax, NI, pensions, student loan payments)
- Net pay
- Method of payment
The most common method of paying employees is through bank transfer using BACS. Around 90% of salaries are paid with this method.
Other payment methods include Fast Payments Service and CHAPS. Whatever method you choose should be agreed between you and your employees.
If you owe your employees expenses, it’ll depend on whether it’s a business or a personal expense you will be covering.
Business expenses you need to reimburse will not usually be treated as gross pay and will therefore not be subject to tax and NI. However, if the expense is personal, then it will be taxable as gross pay.
Similarly, if you plan to pay an allowance to employees, this must be treated as gross pay and will be taxable also.
Benefits in kind
Benefits in kind (BiK) refer to things provided by the employer that aren’t cash, for example, company cars. Most benefits in kind are taxable and may be subject to National Insurance too.
However, the method for deducting tax is different from regular income tax. Instead of using PAYE, a P11D form must be filled in and submitted every year detailing the relevant benefits. This usually alters the employee’s tax code for the following year.
Auto-Enrolment Pension rules mean that you have to enroll your employees in a company pension scheme where you make a contribution and your employee does also. While people can opt out, most employees are choosing to stick with it.
A good payroll system will help to make auto-enrolment a lot easier as it will have all the information you need to set it up, including name of employee, address, date of birth and salary details.
Following the requirements outlined above is so important to ensure you’re fully compliant and have a solid system in place to reduce errors. An accountant will be able to assist you or manage your payroll for you so that it’s in good hands, and records are submitted accurately and on time.
If you need additional help with submitting payroll records, you can get in contact with HMRC on 0300 200 3200. You’ll need your employer reference number when you call. There is also a guide to setting up payroll on the Gov.co.uk website for more information.
This guide has been written exclusively for ByteStart by Kara Copple of The Accountancy Partnership.
Last updated - 19th June, 2018