Running payroll is not just about paying employees. It involves compliance, keeping accurate payroll records, and ensuring the correct amount of tax is deducted.
If you are an employer in the UK, you will likely need to register for PAYE with HMRC to collect income tax and National Insurance contributions from your employees. The PAYE system ensures that tax is deducted at source, meaning employees receive their salary with tax and other deductions already applied.
This article explains how PAYE works, what employers need to do, and how to stay compliant.
Table of Contents
What is PAYE and how does it work?
Pay As You Earn (PAYE) is the system used to collect income tax and National Insurance contributions directly from employee pay before they receive it. Instead of employees handling their own tax payments, employers deduct tax at source and pass it on to HMRC.
PAYE applies to all employees earning above the tax threshold. The system ensures that tax is collected gradually over the tax year rather than employees facing a lump-sum tax bill at the end of the year.
Employers must report PAYE deductions to HMRC each time they run payroll. If an employer gets it wrong, whether by using incorrect tax codes or missing deductions, it can create issues for both the business and its employees.
Registering for PAYE and keeping payroll records
Employers must register for PAYE before their first payday if they have employees earning above £123 per week. This registration process enables businesses to set up a PAYE scheme so they can process payroll and collect tax correctly.
Once registered, employers must maintain accurate payroll records. These records should include details of employee pay, income tax and National Insurance deductions, tax codes, student loan repayments, and any other relevant adjustments.
Failing to keep accurate payroll records can lead to penalties from HMRC, particularly if an employer underpays tax or owes HMRC due to miscalculations. Using payroll software can help businesses stay on top of their payroll obligations and avoid compliance issues.
Understanding tax codes and employee deductions
Tax codes determine how much tax is deducted from an employee’s salary. These codes, issued by HMRC, reflect each employee’s personal tax-free allowance and any adjustments based on their circumstances. Employers must ensure they use the correct tax codes, otherwise employees may overpay or underpay tax.
Deductions from employee pay typically include:
- Income tax and National Insurance contributions
- Student loan repayments, if applicable
- Workplace pension contributions, if enrolled
Employers also contribute to the state pension through National Insurance contributions. Ensuring accurate deductions is critical for both compliance and employee satisfaction, as mistakes can result in payroll disputes, costly corrections, and penalties from HMRC.
Submitting tax returns and paying HMRC
Employers must report payroll information to HMRC in real time, usually on or before payday, through Real Time Information (RTI) submissions. This process ensures that tax and National Insurance contributions are calculated correctly and paid on time.
In addition to regular payroll reporting, employers must ensure that they:
- Pay tax to HMRC by the deadline each month or quarter
- Issue P60s to employees at the end of each tax year
- Complete P45s when employees leave the company
Missing these deadlines can result in fines, interest charges, or further compliance issues. Many businesses use payroll software or external payroll providers to help manage their tax obligations efficiently.
Common payroll challenges and how to avoid them
Even with a clear understanding of PAYE, payroll can be complex. Some of the most common challenges include:
- Miscalculating the amount of tax owed, leading to corrections and penalties
- Failing to deduct student loan repayments or the correct National Insurance contribution
- Using the wrong tax codes, resulting in incorrect employee pay
To avoid these issues, employers should stay up to date with HMRC regulations, ensure they use the correct tax codes for employees, and consider using payroll software or outsourcing payroll to experts.
How Gravita can help
Handling payroll in-house can be time-consuming and complex. Gravita offers expert payroll services to help businesses stay compliant with HMRC regulations, ensure accurate employee pay calculations, and manage tax year reporting efficiently.
Employers can book a consultation with Gravita to review their payroll setup and ensure everything is running smoothly.
