A guide to paying PAYE for small businesses

If your small business employs staff, it’s likely you’ll need to register under PAYE so they can pay tax to HMRC.

Read our guide to find out the PAYE meaning, how it’s calculated, and how you can incorporate it as part of your payroll.

What is PAYE?

PAYE is HMRC’s system for collecting income tax and National Insurance payments from people employed by companies.

When you make a payment to an employee, it’ll include tax deductions which are paid to HMRC via PAYE.

What does PAYE mean?

PAYE stands for ‘Pay As You Earn’ and has been around since the 1940s.

As an employer using PAYE, you pay your staff’s tax contributions to HMRC directly from their pay. This means when an employee receives their salary, all their deductions for tax and payments like student loan repayments have already been made.

What is PAYE tax?

Employers collect PAYE tax from staff wages and pay it to HMRC on a weekly or monthly basis. The PAYE tax year runs from 6 April to 5 April the following year, which is when you’ll need to complete your end-of-year PAYE return.

Every employee will have a tax code given to them by HMRC. This allows businesses using PAYE to know how much to deduct from wages.

At the start of each tax year, HMRC will send out details of every employee’s tax code. This is known as a PAYE notice of coding.

Tax codes can change – for example, when an employee gets a pay rise or stops receiving a taxable benefit such as private healthcare.

When this happens, HMRC will let you know. It’s important that you update the employee’s payroll information as soon as possible so they aren’t overpaying or underpaying tax.

PAYE tax forms

There are also a number of HMRC PAYE tax forms that you may need to give to employees. These include:

• P45 – if an employee leaves your company
• P60 – a tax and earnings summary given to all employees at the end of the tax year
• P11D – if you have benefits like company cars or health schemes
• new starter checklist – we’ll explain this one below

What is an HMRC starter checklist?

You’ll sometimes need a new starter checklist from a new employee to make sure they pay the right amount of tax when you set them up on payroll.

Your new employee will need to complete a new starter checklist if they:

• don’t have a P45
• have a student or postgraduate loan
• have different personal details to those on their P45
• have been sent to work temporarily in the UK by an overseas employer

Make sure you collect this form from your new employee before their first payday.

The form doesn’t need to go to HMRC but you must keep the information recorded on the starter checklist for the current and next three tax years.

How is PAYE calculated?

PAYE income tax is calculated based on how much your employee earns above the personal allowance (which is £12,570 for the 2023-24 tax year).

Here’s a breakdown of the three tax bands:

• if the employee earns up to £12,570, they won’t need to pay any PAYE income tax
• employees earning between £12,571 and £50,270 will be charged the 20 per cent basic tax rate
• employees earning between £50,271 and £125,140 will be charged the 40 per cent higher tax rate
• employees earning more than £125,140 will be charged the 45 per cent additional tax rate

As well as the income tax deduction, you’ll also need to make a deduction for National Insurance and things like student loan repayments and pension contributions.

PAYE calculator

Once you have all the right information, you can use HMRC’s PAYE tax calculator to check your payroll calculations.

To get an accurate result, you’ll need your employee’s tax code and the period of pay, as well as gross pay and tax totals.

You can also use HMRC’s basic PAYE tools to help you manage your payroll.

The tools can be used alongside payroll software and help employers to:

• check National Insurance numbers
• send Employer Payment Summaries (periodic updates to let HMRC know about PAYE changes such as if no employees were paid in a tax month)
• send Earlier Year Updates (if you need to let HMRC know about a correction to a payment made in a previous tax year)
• work out tax and National Insurance
• send key information to HMRC

According to HMRC, the software is only suitable for businesses with under 10 employees.

Can you operate PAYE yourself?

If you want to run your own payroll, you’ll need to register as an employer with HMRC and make sure you have an ERN number (also known as a PAYE reference number) for all your employees.

You’ll also need to decide on the payroll software you want to use and get a login to pay PAYE online.

Setting up a paye shceme yourself is the cheapest option, but it can be time-consuming if you don’t have experience of the PAYE system.

There are a range of rules you’ll need to follow, such as keeping three years worth of records on all employees and paying HMRC the correct amount of tax.

If HMRC asks to check your records and they aren’t comprehensive enough, they could estimate what you need to pay them (which could cost you more) and fine you up to £3,000.

Paying for someone to operate your payroll

The alternative to running your own payroll is paying for an accountant to do it for you.

If you go down this route, you’ll still need to keep records on your employees and share them with your accountant.

You can work with a payroll provider that manages everything for you, including issuing payslips and paying PAYE to HMRC. Or, you can work with a provider that runs your payroll based on the information you give them.

Read our guide to the best payroll software for businesses – some even include payslip templates for you.

Guides for small business owners

• Do I need a PayPal business account?
• Employment contract template – customisable for your business
• A guide to bookkeeping for small businesses
• What is employers’ liability insurance?
• A guide to compassionate leave for employers

Is there anything else you want to know about PAYE? Let us know in the comments below.