As a business owner in the UK, understanding PAYE (Pay As You Earn) and National Insurance (NI) is essential for staying compliant with tax laws and ensuring your employees are paid correctly. Whether you’re a small business or a larger organisation, these payroll systems are integral to ensuring that you meet your tax obligations and contribute to the UK social security system. Here’s a breakdown of PAYE and National Insurance to help you navigate these essential aspects of payroll.

What is PAYE?

PAYE is the system used by employers to collect income tax and National Insurance contributions from employees’ wages. Instead of employees paying tax at the end of the year, employers deduct tax and National Insurance contributions directly from their employees’ earnings before they’re paid.

As an employer, it’s your responsibility to:

• Register with HMRC: Before you hire employees, you need to register as an employer with HM Revenue and Customs (HMRC). This can be done online through the HMRC website.
• Set up PAYE: Once registered, you must set up PAYE on your payroll system. This ensures that the right amount of tax and National Insurance is deducted from employees’ wages.
• Calculate deductions: Each pay period, you must calculate how much to deduct from your employees’ wages for Income Tax and National Insurance, and then send this money to HMRC.

You’ll need to calculate the appropriate deductions based on the Tax Code and NI Category provided by HMRC, which is specific to each employee.

What is National Insurance (NI)?

National Insurance is a system of contributions paid by both employees and employers to fund various state benefits, including pensions, unemployment benefits, and healthcare.

Employee National Insurance Contributions (NICs)

Employees contribute to National Insurance based on their earnings. For the 2025/2026 tax year, the NIC rates are as follows:

• Class 1 contributions (for employees earning above £242 a week):
  • 12% on earnings between £242 and £967 per week
  • 2% on earnings above £967 per week

Employees under the lower earnings limit (£242 per week) don’t need to pay NI, but they may still receive some benefits, such as a state pension.

Employer National Insurance Contributions

As an employer, you must also contribute to your employees’ National Insurance. Employer contributions are calculated as a percentage of employees’ earnings above a certain threshold. For the 2025/2026 tax year, the employer contribution is 13.8% on earnings above £242 per week.

How PAYE and National Insurance Work Together

PAYE and National Insurance are closely linked in the payroll process. When you pay employees, you deduct both income tax and National Insurance contributions and pay them to HMRC. The amount of National Insurance an employee pays depends on their earnings and their NI category. Employers must also contribute to NI, and this is an additional cost that needs to be factored into your payroll.

Why is PAYE and National Insurance Important?

As an employer, failing to meet PAYE and National Insurance obligations can lead to hefty fines and penalties from HMRC. It’s also essential for ensuring your employees’ contributions are properly recorded, so they can qualify for state benefits such as the State Pension or Jobseeker’s Allowance.

In addition, PAYE and National Insurance are important for maintaining accurate financial records for your business, which will be required for Self-Assessment tax returns, Corporation Tax, and other statutory filings.

Final Thought

Understanding PAYE and National Insurance is fundamental to ensuring that you run a compliant and efficient payroll system. By following the necessary procedures, registering with HMRC, and setting up proper payroll software, you’ll ensure that you meet your tax obligations and protect your business from potential penalties. Be sure to stay informed about any changes to tax rates and National Insurance thresholds each year to keep your payroll processes up to date.