PAYE settlement agreements: a useful tax compliance tool

As the end of another tax year approaches, employer’s will begin thinking about to end of year reporting obligations such as forms P11D and P11D(b). At this time, employer’s should also give attention to PAYE settlement agreements (PSAs), which can be just as important. 

PSAs are widely used by employers to maintain compliance around employee expenses and benefits processes. By entering into this formal arrangement, an employer can settle any tax due on expenses and benefits provided to employees by way of an annual submission and payment to HMRC.

Items included in a PSA are not then required to be reported separately, for example via the payroll or in the employee’s P11D. Instead of being taxed to the employee via the P11D process, they are taxed to the employer through this annual settlement. Furthermore, rather than Class 1A NIC being due via the P11D(b), the value of the benefits is subject to Class 1B National Insurance contributions (NIC).

Why have a PSA?

A PSA is a useful tool to help facilitate the provision of benefits to employees, without the employee having to foot the tax cost. For example, employees are unlikely to be pleased to find the cost of a staff function being included on their P11D! 

A PSA can also help to reduce administration for the employer, by eliminating the requirement to include certain taxable expenses/ benefits on employee P11Ds and replacing it with an annual settlement to HMRC.

Another, often overlooked, advantage of a PSA is a reduced exposure to penalties and interest. It can be difficult to keep track of the tax reporting requirements of all the expenses being paid to employees throughout the year. This often leads to rich pickings for HMRC at the inevitable employer compliance visit. A PSA covering a range of potentially taxable items allows you to undertake a review at the end of the year to ensure you have picked up all those taxable items. It can also help you to demonstrate to HMRC that you understand the issues and you are taking your compliance arrangements in this area seriously.

How do we get a PSA?

A PSA is a formal arrangement, applied for in writing, between employer and HMRC. The deadline to apply for a PSA is before 6 July following the end of the tax year to which it relates. However, the PSA cannot apply retrospectively to expenses or benefits that should have had PAYE applied to them. Best practice is therefore to agree a PSA prior to the start of the tax year, to ensure all the items that you intend to include can be included from the outset.

Once a PSA is agreed with HMRC, it will remain in force for future tax years until varied or revoked by HMRC or the employer.

What can we include?
In order to be included in a PSA, the item must be:

• minor; 
• regular; or
• impracticable to allocate a value to individual employees/ operate PAYE as strictly required.

Examples of taxable items that can be included in a PSA are:

• staff lunches/ meals and entertainment;
• fitness centre subsidies;
• travel/ hotel expenses;
• relocation expenses;
• long service awards and staff prizes; and
• trivial benefits over £50, such as wedding/ birthday/ Christmas gifts.

HMRC’s published guidance states that a PSA cannot include cash payments or major benefits in kind. Examples of items that cannot be included in a PSA are:

• cash bonuses;
• low interest loans; and
• company cars.

What tax rate should we use?

The value of the benefits provided should be taxed within the PSA at the marginal tax rates of each employee concerned. Importantly, it is therefore necessary to also consider the tax rates applicable to employees resident in each of the countries of the UK, since the devolved governments (of Scotland and Wales currently) are able to able to set the rates of income tax payable by taxpayers resident in those countries. Please see our separate article on 'Which tax rate is applicable to your PAYE Settlement Agreement (PSA)?'

Where you have employees who are resident in Scotland or Wales (which you can identify from their PAYE codes held within your payroll system), you will need to apply the applicable tax rates in your calculation for benefits provided to those employees. For 2022/23, the tax rates in Wales remain consistent with the rates in England and Northern Ireland, but Scottish tax rates are different and so care is needed to ensure you apply the tax rates correctly in your calculations.

Also bear in mind that as the company is settling a tax liability on behalf of its employees, this represents a further benefit and so the tax due is calculated on a grossed-up basis.Class 1B NIC is then charged on the value of all benefit items included in the PSA calculation which would normally give rise to a Class 1 or Class 1A NIC liability, and on the total amount of tax payable by the employer under the PSA.

For the 2022/23 tax year Class 1B NIC will be charged at a blended rate of 14.53% because of the changes to NIC rates that occurred during the tax year.

What about filing and tax payment deadlines?

You will be required to submit a calculation to HMRC annually of the income tax and Class 1B NIC due. HMRC will review the calculation and confirm agreement if the basic calculation appears to be in order.

To manage their resources HMRC request the calculations to be submitted annually by a certain date which can differ by agreement but is typically 31 July or 31 August. It’s worth noting, however, that there is in fact no statutory deadline for the submission of the calculations, so no penalties can be imposed for failure to submit your calculation by this date. 

There is a statutory deadline for payment of the tax and NIC due under a PSA. This date is 22 October following the tax year (assuming payment is made electronically). Failure to pay the tax due by this date is likely to result in penalties and interest being charged.

We already have a PSA. Should we be doing anything differently?

Companies that have had a PSA in place for several years can often benefit from a review of their process to ensure they are paying the right amount of tax and NIC (and no more). We regularly see examples of companies simply following the process they have followed in prior years, without taking account of all the changes in tax rules. This can lead to unexpected exposures or indeed overpaying tax and NIC.

It may also be sensible to review the potential scope of a PSA to ensure it covers all the items it should do. For example, many employers are reviewing the scope of their PSAs to deal with taxable expenses and benefits associated with new hybrid and homeworking arrangements.

How can RSM help?

If you do not already have a PSA agreement, our team of employment tax specialists can help you to set it up, liaising with HMRC to ensure the agreement includes everything you may wish to include now and going forwards.

We can also provide support with analysing your expenses data and completing the PSA calculations, through to managing the entire process on an outsourced basis.

If you already have a PSA, we can review your existing PSA process to ensure you are taking advantage of all applicable exemptions and ultimately paying over the correct amount of tax and help you ensure that the scope of your PSA is wide enough. 

For more information, or if you have any questions or concerns, please contact Lee Knight or Susan Ball.