Operating payroll

If you employ staff, you’ll normally need to operate payroll to calculate their pay and deductions, keep payroll records and report information to HMRC. This guide explains the main steps involved in setting up and running payroll.

What is payroll?

Payroll is the process you use to calculate and pay your employees and report information about their pay to HMRC.

As well as an employee’s normal salary or wages, payroll may need to take account of payments such as:

overtime, bonuses and commission
tips paid through payroll
expenses and benefits
holiday pay
statutory payments, such as Statutory Sick Pay and statutory payments relating to parental leave.

Payroll is also used to calculate deductions from employees’ pay, which can include Income Tax, employee National Insurance contributions, workplace pension contributions and student or postgraduate loan repayments.

PAYE (Pay As You Earn) is HMRC’s system for collecting Income Tax and National Insurance from employment. Employers use payroll to calculate the amounts due and report the required information to HMRC.

Do I need to register for PAYE?

Most businesses that employ staff need to register with HMRC as an employer and operate PAYE.

You normally need to register if any of your employees:

are paid at or above the relevant PAYE registration threshold
receive expenses or company benefits
have another job
receive a pension.

You may not need to register for PAYE if none of these circumstances applies, although you’ll still need to keep payroll records.

You must also register as an employer if you need to operate PAYE for other reasons, such as paying yourself as a director of a limited company. Different registration requirements can apply if you engage subcontractors under the Construction Industry Scheme (CIS).

If you need to register, you should generally do this before the first payday, but you cannot normally register more than two months before you start paying employees.

HMRC will provide an employer PAYE reference and Accounts Office reference, which you’ll need when operating payroll and making payments to HMRC.

What is Real Time Information (RTI)?

Real Time Information (RTI) is the system employers use to report payroll information to HMRC. Instead of reporting employees’ pay and deductions at the end of the tax year, you normally send information to HMRC each time you pay your employees.

Most payroll information is reported using a Full Payment Submission (FPS). You must normally send an FPS to HMRC on or before the day you pay your employees. It includes details of their pay and deductions, such as Income Tax and National Insurance contributions.

You may also need to send an Employer Payment Summary (EPS). For example, an EPS can be used to report certain adjustments that affect how much you need to pay HMRC, or to tell HMRC that you have not paid any employees in a tax month.

Your HMRC-recognised payroll software will normally create and send these reports electronically as part of running your payroll.

It’s important to submit accurate payroll information on time. Late or incorrect reports can result in penalties in some circumstances.

What information do I need when an employee starts?

Before you pay a new employee for the first time, you’ll need to collect information about them so that you can add them to your payroll and report the correct details to HMRC in your Full Payment Submission (FPS).

Ask the employee for their P45 from their previous employer, if they have one. If they don’t have a P45, you’ll normally need them to complete HMRC’s starter checklist. You should keep the checklist for your records rather than send it to HMRC.

Information	Why you need it
Personal details	You’ll need details such as the employee’s full name, address, date of birth and gender for payroll reporting.
National Insurance number	Use the employee’s NI number if they have one. An employee can start work without one, provided they can prove their right to work in the UK.
Start date	Record the date their employment started.
Tax information	Use their P45 where available. If they don’t have one, use the information from HMRC’s starter checklist to help determine the correct starting tax code.
National Insurance category	You’ll need the appropriate category letter to calculate employee and employer National Insurance correctly.
Student and postgraduate loans	Establish whether deductions are required and which repayment plan applies. HMRC may also send you a notice instructing you to start or stop deductions.
Payroll information	Record information such as how often the employee will be paid and the information needed to calculate their pay.
Normal working hours	You’ll need to report the appropriate employee hours information required by HMRC through payroll.

You’ll also need information needed to pay the employee, such as their bank details, although not all of the information you collect when someone starts work is reported to HMRC.

How much do I pay my staff?

The amount an employee earns and the amount they actually receive will usually be different. Payroll calculates this using the formula:

Gross pay – deductions = net pay

Gross pay

Gross pay is the total amount an employee earns before deductions. Depending on their employment terms, this could include:

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salary or wages
overtime
bonuses or commission
holiday pay
statutory payments, such as Statutory Sick Pay or payments relating to parental leave
other payments they’re entitled to.

You must make sure an employee’s pay complies with the National Minimum Wage or National Living Wage rules where these apply.

Minus Deductions

Deductions are amounts taken from gross pay before the employee is paid. These may include:

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Income Tax
employee National Insurance contributions
student or postgraduate loan repayments
employee workplace pension contributions
Payroll Giving donations
other deductions you’re required or authorised to make.

Equals Net Pay

Net pay is the amount left after the relevant deductions have been made.

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This is the amount you pay to the employee.

Costs that aren't deductions

Some employment costs aren’t deducted from the employee’s gross pay.

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For example, employer National Insurance and employer workplace pension contributions are paid by the employer in addition to the employee’s pay.

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Video: How do I calculate payroll deductions?

by Informi

You can run payroll yourself or pay someone else to do it for you, such as an accountant, bookkeeper or payroll provider.

If you outsource your payroll, you’ll still need to provide accurate and timely information about your employees and their pay. As the employer, you remain responsible for meeting your PAYE responsibilities, even if someone else runs your payroll.

If you run payroll yourself, you’ll normally use payroll software to calculate:

gross pay
Income Tax
employee and employer National Insurance contributions
student and postgraduate loan repayments
workplace pension contributions
statutory payments and other relevant deductions
net pay.

Your software should also enable you to report the required payroll information to HMRC through Real Time Information (RTI). You’ll normally do this by sending a Full Payment Submission (FPS) on or before the employee’s payday.

HMRC provides Basic PAYE Tools, which may be suitable for employers with fewer than 10 employees. Alternatively, you can use commercial payroll software. Payroll software will normally make the calculations for you, but HMRC provides tools and tables that you can use to check payroll calculations manually.

Watch the video below for an introduction to how PAYE works, including how an employee’s tax code affects the Income Tax deducted from their pay.

What payroll documents do I need to give my employees?

As an employer, you’ll need to provide employees with certain payroll documents at different stages of their employment.

Payslips

You must give employees and workers a payslip on or before their payday. It must show their gross pay, deductions and net pay. Where pay varies according to the amount of time worked, the payslip must also show the relevant number of hours worked.
P45

When an employee leaves, you must give them a P45 showing information including their leaving date, pay and tax in the tax year to date and tax code. Your payroll software will normally produce this.
P60

You must give a P60 to employees who are still working for you on 5 April. It summarises their pay and tax for the tax year and must be provided by 31 May, either on paper or electronically.
Reporting of benefits and expenses

If you provide taxable benefits or expenses, you may need to report them to HMRC. Depending on how they’re reported, this may involve a P11D or reporting the benefit through payroll. Where a P11D is required, you must also provide the employee with details of the information reported.

Checklist: What payroll records do I need to keep?

You’re responsible for keeping accurate payroll records, even if an accountant, bookkeeper or payroll provider runs payroll on your behalf.

You must generally keep PAYE records for three years from the end of the tax year they relate to. HMRC can check your records to make sure you’ve reported and paid the correct amounts. If you don’t keep adequate records, HMRC may estimate what you owe and charge a penalty.

Other employment records may have different retention requirements. For example, separate rules apply to records used to demonstrate compliance with the National Minimum Wage and records relating to statutory leave and holiday pay.

In general, your payroll records should include:

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A record of all salary and wages payments

Including statutory sick, maternity, paternity, adoption and shared parental pay.

A record of all deductions made

Tax, national insurance, student loans, pension contributions, payroll giving and anything else which has been deducted from the gross pay.

A record of all staff leave and absences

Copies of all PAYE coding notices (P9T) which have been received

A record of every expense or benefit in kind provided

Along with the details of any contribution made by the employee.

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