Navigating Paye UK: The Ultimate Guide for Business Owners
Written by: Rinaily Bonifacio
Last updated: 27 November 2023
Table of contents
What is PAYE in the UK?
PAYE stands for 'Pay As You Earn'. In the United Kingdom, PAYE is the system used to collect Income Tax and National Insurance contributions from employees. PAYE is deducted from an employee's wages by their employer and then paid to HM Revenue and Customs (HMRC) regularly. This is one of the main methods by which employees pay income tax. The program was introduced in 1944.
The amount of income tax and national insurance deducted from an employee's wages depends on their earnings and circumstances. PAYE is a simple and effective way of ensuring that employees pay the correct amount of tax and also pay national insurance. It also means that employers do not have to worry about calculating and paying these taxes themselves.
You can also pay income tax by self-assessment, a method in which you prepare your self-assessment tax return and pay tax once or twice a year.
What is PAYE tax?
Employees' wages are taxed through PAYE, which they pay to HMRC weekly or monthly. You'll need to file your PAYE tax return at the end of the tax year, from 6 April to 5 April the following year.
Each employee will receive a tax code from HMRC. This allows businesses to deduct the appropriate amount from employees' wages using PAYE. HMRC will send every employee's tax code at the beginning of the tax year. PAYE notices of coding are known as PAYE notices.
Employee tax codes can change if their pay rises or they no longer receive taxable benefits, such as private healthcare. When this occurs, you will receive a notification from HMRC. If you want to ensure the employee is paying enough or under-paying tax, update their payroll information as soon as possible.
PAYE tax forms
HMRC has also prepared several PAYE tax forms you might have to give your employees. Some of these include:
- P45 – for employees who leave the company
- P60 – a tax and earnings summary provided to all employees after the tax year has ended
- P11d – if you have employer-provided benefits such as health insurance
How does PAYE work?
It is the responsibility of HMRC to calculate your tax code. When required by law, it will send you a PAYE coding notice (form 'P2') outlining the tax codes they have calculated for you. You can still request a coding notice even if you are not required to receive one from HMRC. If you have a pension or employer, it will tell them which tax code you have.
A tax code is then used by your employer or pension provider to determine the amount of tax to deduct from your weekly or monthly wages or pensions. This tax (and, if applicable, National Insurance contributions) is regularly paid to HMRC. Those with a personal tax account with HMRC can view their tax code and how it was calculated on their website.
Employers and pension providers can use tax codes in their payments when they run PAYE. It is important to ensure that HMRC has been informed of your income by your employer/pension provider. As soon as new income begins, you will receive an updated coding notice from HMRC. Alternatively, you can contact HMRC and ask for one if this doesn't happen.
You should ensure that the tax codes issued by HMRC are being used by your employer or pension provider. It can become more confusing in retirement because pensioners tend to have multiple sources of income, such as the state pension, which is taxable and paid gross. You should check the tax codes you have received to ensure that you are paying the correct amount of tax.
The payslip you receive at the beginning of each pay period is your payslip if you are employed. The tax code is what your employer uses to calculate how much tax to deduct from your wages.
Pensioners don't usually get payslips with their pension payments. If your tax code changes, you should receive a notification about changes to your pension payment.
You should check with your employer or pension provider to find out what code they use.
The tax year-end
Under the tax year's end date, your employer or pension provider will prepare an end-of-year certificate for you (form P60 or its equivalent) by 31 May as long as you are employed or receiving a pension. You will see information about your pay or pension, the tax deducted and your final tax code. HMRC gets this information from your employer or pension provider.
How does HM Revenue and Customs (HMRC) set up payroll?
If you are a small business owner, consider managing your payroll service. It is necessary to complete several steps before you can pay your employees:
-You must determine when and how frequently you will pay your most employees and ensure that this is outlined in their contracts.
-You will need to register with HM Revenue and Customs (HMRC) as an employer and set up a login for PAYE Online.
-A payroll software program lets you keep track of an employee's details, calculate their pay and deductions (including tax), and send these details directly to HMRC.
-To keep track of what you pay and what deductions you made from their pay, you must set up a system. The information will be submitted for verification to HMRC.
Useful Read: UK Tax Deductions: The Employer's Guide
The national insurance number of every new employee you hire must also be provided to HMRC, as it is a requirement of the legislation.
Where do you store payroll records, and how do you manage PAYE?
A dedicated payroll software application automates many laborious duties associated with payroll. Payroll records can be kept in many forms (including paper and spreadsheets).
Using payroll software, you can store all the information about your employer, including tax codes and hourly rates. You can automatically calculate their pay (and any deductions) based on how many hours they work. HMRC's reports will be processed by this software, which may even be able to interface directly with HMRC.
How is PAYE calculated?
In 2021-22, the PAYE rate increased to £12,571 if your employee earns more than the personal allowance (which is £12,570 for the tax year).
Here's a breakdown of the three tax bands:
- A PAYE income tax exemption is available if the employee earns up to £12,570
- Basic tax rates of 20 per cent will be applied to workers earning between £12,571 and £50,270
- The 40 per cent higher tax rate applies to employees making between £50,007 and £150,000
- Employees earning over £150,000 will be taxed at an additional rate of 45 per cent
In addition to income taxes, you will have to deduct benefits such as National Insurance, student loan repayments, or pension contributions.
HMRC's PAYE tax calculator can help you check your payroll calculations once you have all the correct information.
Your employee's tax code, the period of payment, and your employee's gross wages and taxes will help you achieve an accurate result.
Additionally, you can manage your payroll using HMRC's PAYE tools.
There are a variety of tools available to employers that can be used along with payroll software to help them:
- Make sure the national insurance number is correct
- Publish Employer Payment Summaries (regular updates to let HMRC know what's going on with PAYE).
- Make an earlier year update (if you need to tell HMRC about a mistake in a previous year)
- Work out the tax and NI
- To HMRC, send key information
According to HMRC, the software is only available to businesses with at most ten employees.
Is it possible to process payroll manually?
Yes, It is possible to process payroll manually, but it is time-consuming and prone to errors. Here are some other disadvantages:
- With an increase in the number of employees, the system will become more complex and time-consuming since it is not scalable.
- There is no real-time reporting or analytics capability, and a lot of manual work is involved in analysing data due to limitations.
- When an error occurs in processing, it can be frustrating at best and disastrous at worst. Mistakes can lead to overpayments, underpayments, and errors with tax and pension payments. There can be difficulties finding them as well.
What's the best time to process payroll?
The payroll process can be initiated any time during the month, and collecting employee data throughout the month will ensure that payroll records are up-to-date. The actual running of payroll (if it is done with software) takes place on the day an employee is paid. Usually, the last working day before the regular payday is brought forward if the deadline falls on a weekend or a bank holiday.
Rinaily is a renowned expert in the field of human resources with years of industry experience. With a passion for writing high-quality HR content, Rinaily brings a unique perspective to the challenges and opportunities of the modern workplace. As an experienced HR professional and content writer, She has contributed to leading publications in the field of HR.
Please note that the information on our website is intended for general informational purposes and not as binding advice. The information on our website cannot be considered a substitute for legal and binding advice for any specific situation. While we strive to provide up-to-date and accurate information, we do not guarantee the accuracy, completeness and timeliness of the information on our website for any purpose. We are not liable for any damage or loss arising from the use of the information on our website.
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