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, including completing P11D forms
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 are dealt with through the PAYE system, along with employees' earnings. The way employee benefits are treated varies for different kinds of benefit.
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, with tax and NI deducted at the time. Other taxable benefits are declared on the annual P11D.
Note: the PAYE system changed in April 2013 so that businesses are required to report PAYE information in real time.
Employers can now collect and pay tax on benefits and expenses through payroll. 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. Details of benefits must be included on a P11D for all employees in receipt of benefits-in-kind (with the exception of certain 'trivial' benefits worth less than £50) and employees will pay tax on those benefits. 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 - £866 per week, £45,000 per year in 2017/18 - employee's NI on the excess is only charged at 2% instead of 12%.
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.
Since 6 April 2016, the first £5,000 of dividend income has been tax-free (no matter what other non-dividend income the recipient has). Any dividend income over £5,000 is taxed at 7.5% (for basic rate tax payers), 32.5% (higher rate tax band) or 38.1% (additional rate band). From April 2018, the Dividend Allowance will be reducing from £5,000 to £2,000 per year.
Find out more about the recent changes to the PAYE system on the HMRC website.