Understanding Payroll in the United Kingdom: What Global Companies Need to Know About UK Payroll
Introduction: The post-Brexit UK landscape
Following three turbulent years of negotiation, the UK finally left the European Union on 31st January 2020 - though an agreed transition period means EU law will remain in place for a short while yet.
While the UK can still be very much considered a powerhouse of international business, it remains to be seen what long-term impact Brexit may have on economic progress. For many US and Western organizations, the UK has long been a popular ‘first stop’ on international expansion plans, due largely to the country’s efficient regulatory environment, its similar business structures to the US and of course, its links to the EU.
And, while the UK is set to leave the EU Single Market at the end of the transition period, there’s little current evidence of a decline in this trend just yet. Indeed, one notable post-Brexit survey showed 90% of US business leaders still eager to pursue business with the UK. With a trade deal between the two countries persistently mooted, that outlook could well be rewarded in future.
But for global businesses continuing to put their faith and resources into UK operations, they’ll first need to understand the nuances of the country’s unique employment guidelines, payroll laws and tax requirements.
Getting Started: How to set up business in the UK
Register the business
For an overseas business seeking to register in the UK, an OS IN01 form must be filed online with Companies House – a division of Her Majesty’s Revenue and Customs (HMRC) – along with an administration fee of just £20. This must be completed within one month of opening for business.
Note that carrying out business in the UK doesn’t necessarily compel organizations to register with Companies House. Registration is only required when the business establishes some degree of physical presence in the UK, (such as an office, warehouse or branch).
Register for VAT (via ‘Making Tax Digital’)
You must register for VAT (Value-Added Tax) if the organization’s taxable turnover is (or is expected to be) more than £85,000 a year. The vast majority of businesses can register for free online, including partnerships and a group of companies registering under one VAT number. Most organizations are now also bound by the new ‘Making Tax Digital’ (MTD) rules, which require the keeping of digital records and the use of appropriate accounting software to submit quarterly VAT returns.
These rules are set to be extended to incorporate further types of tax, with the most significant being quarterly (rather than annual) corporation tax returns. There are also plans to include PAYE (see next section) in the MTD process. The goal of Making Tax Digital is to increase the transparency in the accounting process, as well as the frequency with which organizations must process tax returns to the HMRC. In many ways it should also make tax administration more efficient and easier for companies through the implementation of a fully digitalized tax system, while also reducing HMRC's overheads for managing tax affairs.
Set up PAYE and payroll
All companies must register as an employer and set-up their PAYE (pay as you earn) scheme, even if they only have one employee. PAYE is HMRC’s way of collecting income tax and National Insurance from employees at source. Again, this can be applied for online via www.gov.uk and it can take up to 5 working days to get your employer PAYE reference number, and you must be registered before the first payday.
Once registered as an employer, you can either set up and run payroll yourself using payroll software, or pay a payroll provider to do it for you. Note that you’ll still be responsible for collecting and keeping employee records - and you’re legally responsible for compliance with PAYE, even if you are outsourcing payroll. Employers Liability Insurance is another legal requirement if your business employs one or more people. There’s a daily fine if you don’t have it in place.
Employment Considerations: Your obligations as a UK employer
While the UK has now exited the EU, the UK government has indicated that existing EU legislation will be transposed into UK law even after the transition period. Few (if any) changes to current workers rights are therefore expected as a result of Brexit - though of course the rights of EU citizens to live and work in the UK will be affected. Indeed, from the 1st January 2021, a new immigration system will apply, and EU citizens moving to the UK to work will require a visa in advance.
If you are employing staff in the UK, you must therefore ensure that every employee has the right to work for you, even if they are a UK citizen. This will require either a physical check of ID documents or, for applicants with a Biometric Residence Permit, an online check.
Knowingly employing illegal workers is a criminal offence that can carry a prison sentence, while even a genuine failure to undertake adequate checks can result in a fine of up to £20,000 per illegal worker. Depending on your industry, you may also need to carry out a Disclosure and Barring Service (DBS) check to establish an applicant’s criminal record.
Notifying HMRC of a new employee
You must tell HM Revenue and Customs (HMRC) when you take on a new employee. To facilitate this process, each new employee should provide you with a P45 from their previous employer. The P45 details the taxes the employee has paid to date in the tax year, and helps determine the correct tax code for them. It may also indicate if the employee is paying back a student loan. If the individual does not have the P45, completing the HMRC’s Starter Checklist will determine the correct tax code to use for them.
Other employer obligations
New employees are entitled to a written statement of employment within two months of the initial hiring, including terms and conditions of employment, wages, and a discussion of pensions, sick pay, absence, holiday pay, total hours and other common issues.
There is no law determining the length of a probationary period, though it’s typical for a probationary period to last no longer than six months (or three months when an employee is moving to a new post internally).
Compensation, Bonuses, Pensions & Severance: What and how to pay your staff
The minimum wage UK workers are entitled to is regulated by the National Minimum Wage and the Living Wage - the rates of which change every April. The Living Wage (£8.72 per hour as of April 2020) applies to all workers aged over 25, while the lower National Minimum Wage has several categories dependent on age. There’s a separate category for apprentices. Note that while the National Minimum Wage is worked out at an hourly rate, it applies to all eligible workers even if they’re not paid by the hour.
Most salaried UK workers are paid monthly, with pay sent directly to their bank account. By law, a payslip must also be issued with each payment. Bonus schemes are quite common in the UK, with performance payments either stipulated in the employment contract, or left to the discretion of the employer. Typically bonus payments are delivered annually.
The UK’s new auto-enrollment laws oblige employers to enrol eligible staff into a pension scheme (though employees may then choose to opt out). Employers must also contribute towards these pensions. Currently, auto-enrolment applies to employees aged 22 or over, earning a minimum of £10,000 from that particular employment. Details of how much you need to contribute can be found via the Pensions Advisory Service .
Aside from unpaid benefits (such as accrued minimum leave entitlement in lieu) there are no statutory requirements for severance pay, except in the case of redundancies. Any employee that has been employed continuously for two years or more gains the right to the statutory redundancy payment (SRP). In terminating a contract (unless due to disciplinary process) the employer must however issue a notice period, which will be anywhere between 1 and 12 weeks depending on the employee’s length of service.
Tax & Withholding Considerations: UK employment tax rules and rates
The UK’s Real Time Information (RTI) system requires that all payroll information - from payments and income taxes to social contributions - is reported to HMRC on a pay-as-you-earn (PAYE) basis, in real time. This essentially means you must submit payroll information to HMRC on or before the day you pay your staff. By reporting payroll data on this continuous basis, a significant administrative burden at the end of the year is avoided.
To report your information, you’ll need to make a Full Payment Submission (FPS). Most payroll software can generate the necessary reports and submit details to HMRC for you. Note, you’ll also have to advise HMRC if a new employee joins or leaves, or if an employee’s circumstances change (for instance if they become a director).
Individual income tax rates range from 0 to 45%, depending on salary. Each employee has a personal tax-free allowance up to £12,500, with earnings between £12,501 and £50,000 taxed at the basic rate of 20%. A higher rate of 40% applies to earnings between £50,001 and £150,000, while anything over this threshold is taxed at 45%.
These employee income tax deductions, along with certain National Insurance payments and student loan repayments, form your monthly PAYE bill. The PAYE bill must be paid by the 22nd of the tax month that follows the payroll date. Tax months run from the 6th, so essentially the bill must be settled between the 6th and 22nd.
Off-payroll working rules (IR35)
In addition to regulations around PAYE workers, consideration must also be given to off-payroll working rules, applicable to contractors who provide their services through their own limited company or other intermediary (such as a partnership or another individual).
These rules, known as IR35, are designed to prevent disguised employment, allowing HMRC to collect additional tax where a contractor is an employee in all but name. IR35 also aims to end the practice of employers paying their de facto employees via intermediaries to avoid having to provide benefits and employment rights.
Historically, the onus has always been on the contractor to establish whether IR35 applies. However, from April 2021, it will in most cases become the responsibility of the employer (also referred to as the client) - with punishments in place for those found incorrectly classifying their workers.
All public sector authorities, plus medium and large-sized private sector clients, will now take on this responsibility - but there is an exemption for small businesses (defined as having an annual turnover under £10.2m and less than 50 employees).
For overseas employers working with contractors in the UK, there has been much confusion around the IR35 reforms. The UK Government has stated that where a UK contractor is working with a ‘wholly overseas’ client, the contractor would still retain the right to determine their own IR35 status after April 2021. We would recommend checking the latest Government stance on this hotly debated issue, if you do currently or are planning to work with UK contractors.
Leave Considerations: Holiday, maternity and sick pay
Almost all workers are legally entitled to 5.6 weeks’ paid holiday per year (known as statutory leave entitlement or annual leave). Those working a typical 5-day week must therefore receive at least 28 days’ paid annual leave a year.
Part-time workers are also entitled to at least 5.6 weeks’ paid holiday, but this is calculated on a pro-rata basis so will amount to fewer than 28 days. To calculate the right holiday entitlement, the days worked per week can simply be multiplied by 5.6. Notably, bank or public holidays do not have to be given as paid leave, and many employers choose to include bank holidays as part of a worker’s statutory annual leave.
UK labor laws also stipulate a Statutory Sick Pay (SSP) of £94.25 per week for up to 28 weeks. However, many employers provide contractual sick pay that is higher than the standardized SSP rate.
Women are eligible for up to 26 weeks of ‘Ordinary Maternity Leave’ and up 26 more weeks of Additional Maternity Leave. Employees must take at least 2 weeks after any baby is born, with certain factory workers required to take 4 weeks off.
Statutory Maternity Pay (SMP) is paid for up to 39 weeks, and provides the employee with 90% of their average weekly earnings for the first 6 weeks. Thereafter, they receive £148.68 a week, (unless their average weekly earnings are lower than this, in which case the 90% payments continue).
The worker’s employment rights, such as the accrual of holiday, are protected throughout the maternity period. Men are generally entitled to two weeks’ paternity leave, taken within 56 days of the date of childbirth. Paternity pay is also £148.68 a week, or 90% of the regular weekly earnings if lower.
The UK's Public Holiday Schedule
- January 1st (New Year's Day)
- The Friday before Easter (Good Friday)
- Easter Monday
- First Monday in May (Early May Bank Holiday)
- Last Monday in May (Spring Bank Holiday)
- Last Monday in August (Summer Bank Holiday)
- December 25th (Christmas Day)
- December 26th (Boxing Day)
Where a bank holiday falls on a weekend, a ‘substitute’ weekday becomes the bank holiday - usually the following Monday.
The General Data Protection Regulation (GDPR)
Most overseas companies will be familiar with the GDPR - the European data protection legislation that came into force in May 2018. GDPR is focused on strengthening data privacy for all individuals within the European Union (EU), but it also covers the export of personal data outside of the EU.
For companies operating outside of the EU, there are compliance requirements on how employee data is transferred, accessed and stored - with hefty fines for any organization deemed to be in breach. For more information on GDPR and how it applies in the UK, visit the UK Information Commissioner’s Office (ICO) website.
Summary: Your Payroll in the UK
While relatively straightforward compared to many countries, setting up business and running payroll in the UK still gives rise to multiple considerations, with a raft of employee rights and protections to take into account.
Brexit’s full impact on workplace legislation remains to be seen, though a new immigration system already means significant changes for EU nationals’ right to work. Meanwhile, ongoing modernization of the tax system (via initiatives like Making Tax Digital) gives further cause for payroll professionals to keep a keen eye on developments.
As ever, outsourcing your global payroll administration to a dedicated and experienced team may be the best way to stay compliant through these times of change. The right global payroll solution helps your business maintain its international momentum - offering the flexibility to scale up or down to meet your needs in the UK and beyond.
This guide is for informational purposes only and not intended to convey or constitute legal or any other advice. It is not a substitute for advice from a qualified professional. Click here to see more country payroll guides from CloudPay