Employee benefits can give rise to complicated tax and National Insurance (NI) considerations. You need to ensure that your payroll systems deal with employee benefits properly.
Various regulations have been introduced to reduce the tax advantages of employee benefits, ensuring that most of them are treated as taxable benefits. Even so, some employee benefits offer significant tax advantages.
Employee benefits and PAYE
Employee benefits in the form of cash - such as bonuses and commission - are taxable benefits treated in the same way as the employee's salary or wage. Special anti-avoidance rules apply to benefits that are readily convertible into cash, making these taxable benefits as well.
Employee benefits in kind can be treated differently, depending on the particular type of benefit. Some employee benefits are handled through the regular payroll ie "payrolled", with tax and NI deducted at the time. You must register before the start of the tax year you want to payroll for. You then add the value of the employees' benefits to their salary and pay the tax due on those benefits through payroll. If you use this service, you will not need to complete a form P11D but you will still need to work out the amount of Class 1A National Insurance due and complete form P11D(b).
Taxable benefits and tax-efficient opportunities
Most employee benefits are taxable and employees will pay tax on those benefits (with the exception of certain 'trivial' benefits worth less than £50). Employers will also become liable to NICs on any expenses and benefits provided if they have not already been reported and taxed via payroll.
However, there are still several important tax-planning opportunities. Employers' pension contributions are not a taxable benefit. Other employee benefits with favourable tax or NI treatment include share schemes such as share incentive plans, some childcare benefits, various small gifts, some suggestion scheme awards and car parking facilities at work. Items needed for work such as uniforms or eye tests can also be non-taxable benefits.
Employees' business expenses can be repaid free of tax and NI, provided there are proper records and the employee is only being reimbursed, not making a profit.
Because National Insurance contributions are generally calculated on a weekly or monthly basis, employees may benefit if their incomes are variable - for example, if they receive lump-sum bonuses in one particular month. If the bonus takes the employee's earnings over the upper earnings limit for that period - £967 per week or £50,270 per year in 2022/23 - employee's NI on the excess is only charged at 3.25% instead of 13.25%.
Tax-efficient benefits for owners and directors
Additional rules exist to help prevent company directors taking advantage of tax-planning opportunities. In particular, company directors' National Insurance contributions are based on annual earnings, so there is no advantage to taking bonus payments rather than regular income.
Directors can still take advantage of non-taxable benefits such as employers' pension contributions. You may not be able to take advantage of share schemes such as Enterprise Management Incentives if you and your family control more than 30% of the company.
Company owners may, however, be able to take advantage of broader tax-planning opportunities such as employing your spouse, taking payment in dividends and benefiting from Entrepreneurs' Relief on capital gains.
The first £2,000 of dividend income is tax-free (no matter what other non-dividend income the recipient has). Any dividend income over £2,000 is taxed at 8.75% (for basic rate tax payers), 33.75% (higher rate tax band) or 39.35% (additional rate band).
Find out more about the recent changes to the PAYE system on the HMRC website.