It is argued there are two certainties in life. The first is that one day you will day. The second is that you will pay income tax. Every person who earns an income will be at the mercy of the taxman and have to pay income tax if their income exceeds a specific amount, known as the personal allowance. It doesn’t matter whether you are self employed, a pensioner, unemployed or an employee if you generate an income you are likely to have a tax liability to pay over to the taxman. There are several tax breaks, reliefs and credits available although you have to satisfy specific criteria to qualify for these.
Since most people are employees the most common type of income tax liability is the payroll taxes liability. Payroll taxes are a tax liability that is collected from employees under the pay as you earn (“PAYE”) scheme. In the UK every person has a personal allowance, which is an amount of income that can be earned tax free, i.e. with no payroll tax liabilities or associated costs, such as income tax and national insurance contributions or social security costs.
Each and every employee is solely responsible for calculating their own overall tax liability and ensuring the tax is paid over to the tax man on time. However in the real world it is the employers who calculate the payroll taxes liability of each employee before deducting the amount from the net pay, and pay it over to the taxman on the employees’ behalf.
The first of the payroll taxes is income tax or PAYE tax. PAYE tax is calculated on the employees’ gross salary less a proportion of the personal allowance. The second of the payroll taxes is National Insurance contributions and these are calculated on the gross salaries less a monthly allowance. The personal allowance for PAYE and monthly allowance for National Insurance contributions are predetermined amounts as notified by the taxman.
Employers also suffer payroll taxes and have to pay National Insurance contributions, known as employer’s NIC, for each and every employee liable to income tax. The employer’s NIC payroll taxes are an additional cost for the employer to bear. Whilst the Employer’s NIC payroll taxes reduce the profit margin they are an allowable deduction for corporation tax purposes so the employers do get some tax relief.
PAYE and National Insurance contributions (both employers’ and employees’) can be calculated manually using tax tables that can be obtained free from HM Revenue & Customs. Using the tax tables is straight forward and self explanatory so it is an exercise that can be self taught. Calculating the payroll taxes manually using the tax tables is very cheap and it is recommended when the business has a small number of employees. Tax rates and allowances change year on year so you need to ensure you are using the correct tax table when calculating the payroll taxes due. Using the wrong table will result in an underpayment to the taxman which will cause future problems.
There are many payroll software packages on the market that computerize the payroll function. Computerised payroll packages make the payroll process faster and easier since they automatically calculate the payroll taxes due, negating the need for the manual tax tables. It is worth remembering that the computerised payroll is only as accurate as the data that is input, therefore it is important to accurately input all the information to get an accurate payroll taxes figure to deduct. Computerised payroll software packages have tax tables built in to them therefore you need to update the payroll software package at the start of every tax year to ensure the tax table in the software is current and includes the appropriate allowances.
Unfortunately payroll taxes are a cost for both employees and employers and there is no getting away from them. At the end of each and every tax year employers have a duty to complete an end of year tax form clearly stating the total gross salary paid and the amount of payroll taxes, including the PAYE tax and the National Insurance contributions. Failure to file the end of year form will result in penalties and charges and may even lead to a payroll taxes investigation.