When does PAYE apply to you?

PAYE — Pay As You Earn — is how HMRC collects Income Tax and National Insurance Contributions (NICs) from wages as they are paid, rather than in one lump sum at the end of the tax year. If you are a sole trader taking on your first employee, or a limited company director paying yourself a salary, you become an employer for PAYE purposes the moment you pay anyone at or above the relevant thresholds.

You must register as an employer with HMRC before the first payday, and you can do so up to two months in advance. Registration gives you a PAYE reference and an Accounts Office reference, both of which you will need to run payroll and pay what you owe. Even a single-director limited company usually needs to register, unless the salary sits below the Lower Earnings Limit and nobody else is paid above it. Where an employee earns below that limit and has no other job or pension, you may not have to register at all — but many employers do anyway so their employee keeps building qualifying years towards the State Pension.

The thresholds and rates that shape your payroll

For the current tax year, the figures below are the ones that drive almost every payroll calculation. They are reviewed each April, so always check the latest rates before your first payday of a new tax year.

• Personal Allowance: £12,570 — the amount most employees can earn before paying Income Tax.
• Primary Threshold: £242 a week (£1,048 a month) — where employee NICs begin.
• Upper Earnings Limit: £967 a week (£4,189 a month) — above this, employee NICs fall to 2%.
• Secondary Threshold: £96 a week (£417 a month) — where your employer NICs begin.
• Employee NIC rate: 8% on earnings between the Primary Threshold and Upper Earnings Limit.
• Employer NIC rate: 15% on earnings above the Secondary Threshold.

The distinction that trips up most new employers is this: employee NICs come out of your employee's pay, while employer NICs are an additional cost to your business. Budget for both when you decide what you can afford to offer.

Setting up payroll and reporting in real time

Almost all employers must report payroll information to HMRC in real time using RTI-compliant software. HMRC's free Basic PAYE Tools is perfectly adequate for a handful of employees on straightforward pay. Paid software starts to earn its keep once you are dealing with pensions, benefits, expenses or a larger team.

On or before each payday you send a Full Payment Submission (FPS). This tells HMRC what each employee was paid, how much tax and NICs you have deducted, and the total you owe. If you have a month with nothing to report but still need to claim a reduction — the Employment Allowance, for example, or recovery of statutory maternity pay — you send an Employer Payment Summary (EPS) instead.

Alongside the reporting, you must give every employee a payslip on or before payday showing gross pay, deductions and net pay. By 31 May following the end of the tax year, give each employee a P60 summarising their pay and tax. Anyone leaving gets a P45. Keep payroll records, including P45s and P60s, for at least three years after the end of the tax year they relate to.

Paying HMRC and claiming the Employment Allowance

Once reported, the tax and NICs you owe must reach HMRC by the 22nd of the following month if you pay electronically. Payment by post is due by the 19th, though most employers pay online. If your average monthly liability is under £1,500, HMRC may let you pay quarterly instead, which is a welcome bit of breathing space for very small businesses.

Do not overlook the Employment Allowance. This reduces your employer NICs bill by up to £10,500 a year and is claimed through your payroll software via an EPS. You can only claim if your employer NICs liability in the previous tax year was below £100,000. There are restrictions where the only person on the payroll is a director, so single-director companies should check their position before assuming they qualify.

Common mistakes worth sidestepping

• Registering late. Registering before the first payday avoids penalties and last-minute scrambling.
• Missing RTI deadlines. Late FPS submissions attract penalties, although new employers usually get a grace period for an initial slip.
• Forgetting the Employment Allowance. It is easy to miss, so diarise a check every April.
• Confusing the two NIC rates. The 8% comes out of your employee's wages; the 15% is your own cost.
• Sloppy record keeping. HMRC can ask to see payroll records going back three years after the tax year ends.

Making payroll painless

Set up a routine: run payroll a day or two before payday, file your FPS, and put the money aside immediately in a separate account so it is ready for the 22nd. If you use accounting software, connect it to your bank feed so the payments reconcile automatically and nothing gets missed at year end.

If the thought of RTI deadlines makes you uneasy, talk to an accountant before your first payday rather than after your first penalty notice. A few hours of professional help at the start is far cheaper than unpicking mistakes later, and it lets you get on with what you actually enjoy — running your business.