How to Do Payroll for a Small Business in the UK

Running a business in the United Kingdom involves numerous responsibilities, with payroll being a fundamental aspect of managing a workforce. Payroll involves calculating wages, accounting for various deductions, and ensuring timely payments. This process forms the financial backbone for any business with employees, directly impacting compliance and fostering employee satisfaction.

Effective payroll management is central to a business’s operation and financial integrity. It requires a meticulous approach to ensure accuracy in earnings, deductions, and reporting to governmental bodies. Understanding UK payroll is therefore not only a matter of compliance but also a strategic component of operational excellence.

Registering as an Employer

Before a business can process its first payroll, it must register as an employer with HM Revenue & Customs (HMRC). This registration becomes necessary as soon as a business starts paying anyone, even if it is just one employee. The registration process ensures the business can operate within the Pay As You Earn (PAYE) system, which is HMRC’s method for collecting Income Tax and National Insurance contributions from employee wages.

To register, businesses typically provide details such as their business type, employment start date, and address, usually through HMRC’s online portal. Upon successful registration, HMRC issues a PAYE reference number and an Accounts Office reference number. The PAYE reference identifies the employer’s PAYE scheme, and the Accounts Office reference is used for making payments to HMRC. These references are crucial for all future communications and submissions related to payroll. Registering promptly avoids potential penalties and ensures the business can fulfill its obligations from the first payday.

Calculating Employee Pay and Deductions

Once registered, businesses must accurately calculate employee pay and apply correct deductions. Gross pay is an employee’s total earnings before deductions, including salaries, hourly wages, bonuses, and holiday pay. Businesses must maintain accurate records of these earnings.

Tax codes, issued by HMRC, determine how much income tax to withhold from an employee’s pay, reflecting their personal allowances and taxable benefits. Employers obtain this code from an employee’s P45 form or a starter checklist. Income tax is then deducted based on gross pay and the specific tax code.

National Insurance Contributions (NICs) are another mandatory deduction, funding state benefits like the state pension and statutory sick pay. Both employees and employers contribute to NICs, with employee contributions deducted from their gross pay and employer contributions calculated on earnings above a certain threshold. NICs are categorized, with Class 1 NICs being the most common for employees and employers.

Beyond income tax and NICs, businesses must account for workplace pension contributions under auto-enrolment rules. Employers are required to automatically enroll eligible employees into a pension scheme and make contributions, alongside deducting employee contributions.

Other common deductions include student loan repayments, which are automatically deducted if an employee’s income exceeds a certain threshold, and attachment of earnings orders, which are legally mandated deductions for debts like child maintenance or court fines. After all applicable deductions, the remaining amount is the employee’s net pay.

Reporting to HMRC and Paying Tax

After calculating pay and deductions, businesses must report this information to HMRC and make payments. The UK operates a Real Time Information (RTI) system, requiring employers to report payroll information to HMRC on or before each payday. This ensures HMRC has up-to-date records of employee earnings and deductions.

The primary report under RTI is the Full Payment Submission (FPS), detailing employee earnings and deductions for the pay period. An Employer Payment Summary (EPS) may also be required to report recoverable amounts, such as statutory parental or sick pay, or to indicate no payments were made in a period. This allows employers to claim reductions in their overall payment to HMRC.

Submissions are typically made using payroll software, or HMRC’s free Basic PAYE Tools for small businesses. Once reported, the total Income Tax, National Insurance, and other deductions owed to HMRC must be paid. Payments can be made via bank transfer, Direct Debit, or online. The payment deadline is generally the 22nd of the month following the tax month in which the payroll was run, or the 19th if paying by post. Smaller employers may be eligible to pay quarterly if their average monthly payment to HMRC is below a specific threshold, which can assist with cash flow management.

Managing Ongoing Payroll

Beyond the regular calculation, reporting, and payment cycle, ongoing payroll management involves several administrative tasks. Businesses must issue payslips to employees, detailing their gross pay, deductions, and net pay for each pay period. Payslips must be provided on or before payday and contain specific information, including the employee’s name, National Insurance number, and the employer’s PAYE reference.

Maintaining accurate and comprehensive payroll records is essential. Employers are legally obligated to keep payroll records for a minimum of three years after the end of the tax year. These records are important for HMRC audits and demonstrating compliance.

For new employees, businesses should obtain a starter checklist if a P45 is unavailable, to ensure the correct tax code is applied. When an employee leaves, the employer must issue a P45, which summarizes their pay and tax deducted, enabling their next employer to apply the correct tax code.

Year-end procedures mark the culmination of the payroll cycle, which runs from April 6th to April 5th. Employers must submit their final FPS for the tax year on or before April 5th and provide each employee with a P60 by May 31st, summarizing their total pay and deductions for the entire tax year.