Our earlier Setting up a Business blog posts looked at the key issues when setting up as either a limited company or self employed sole trader. Another important area to think about is whether you will need to take on employees and the costs of setting up a PAYE (pay as you earn) scheme.
In an earlier blog, we talked of the example of Jane Grey, a sole trader running her own gardening business, which let’s assume is doing really well and growing, so Jane has decided to take on a member of staff.
She registers with HMRC to set up a PAYE scheme. She agrees the terms of employment with her new member of staff and pays her employee every month. She then submits a monthly PAYE return to HMRC.
As an employer, she has to calculate the tax and National Insurance deductions from her employee’s wages as her employee only receives the net amount (after tax and National Insurance).
And as an employer, she will also have to pay Employer’s National Insurance. This is paid at 13.8% on all earnings over £676 per month (£8,112 per year).
As a small employer, Jane pays the employee’s tax and National Insurance (as both amounts are deducted from the employee’s wages) as well as her Employer’s NI to HMRC either monthly or quarterly.
Notice of Tax Coding
So that an employer can calculate the tax they need to deduct for employee, tax codes are issued. The tax code decides how much tax is deducted from the employee’s pay which is then paid by the employer to HMRC on the employee’s behalf; this is the basis of the PAYE scheme.
Employers receive the tax code from their employee’s P45 or a Notice of Tax Coding from HMRC but they do not receive the detail, so it is up to the employee to check the detail and tell HMRC if it is wrong.
How does it work – the tax code aims to ensure the correct tax is taken from wages each month. The standard code this year is 1100L i.e. the full personal allowance of £11,000 divided by 10.
However, let’s assume that Jane as well as paying wages to her employee also provides private medical insurance which is treated by HMRC as a taxable benefit-in-kind. HMRC will then adjust the employee’s notice of coding and deduct the value of the medical insurance from the personal allowance, for example £1,000 of medical cover would be deducted from £11,000 personal allowance to give £10,000, a tax coding of 1000L.
As an alternative, Jane could consider the option of treating her employee’s private medical insurance as “payroll benefits”, where the employee’s tax code would stay at the full personal allowance as the standard code of 1100L, but 1/12 of the value of their medical insurance would be added to their income each month and taxed.
The result is the same.
Remember as an employer Jane Grey would have to pay Employer’s National Insurance on any benefits paid to her employee.