Payroll for your first employee in the UK: registering, paying, pensions and records

Hiring your first employee is a milestone, and also the point where bookkeeping gets more serious. You become responsible for deducting tax and National Insurance, reporting to HMRC every time you pay, arranging a pension and keeping records that most sole traders and one-person companies never need. None of it is difficult once you have seen the shape of it, but doing it in the wrong order, or finding out about a duty after your first payday, is how small employers end up with penalties. This guide walks through the steps in a sensible order and shows what the bookkeeping looks like.

Before you offer the job

Decide whether the person will be an employee, a worker or a self-employed contractor. The label in the contract does not decide it. What matters is control, personal service and whether they are in business on their own account. If someone works set hours, uses your equipment, cannot send a substitute and is paid regardless of results, they are probably an employee. Getting it wrong can leave you owing PAYE, National Insurance and holiday pay. HMRC provides an online employment status tool if you are unsure.

Work out the real cost of the hire. Salary is only part. Add employer National Insurance (15% on pay above £5,000 a year), employer pension contributions (at least 3% of qualifying earnings), holiday pay, insurance, software and equipment. A £26,000 salary costs roughly £28,500 to £29,000 once employer NIC and pension are included, before any equipment.

Step 1: check the right to work

You must check that every new employee has the right to work in the UK before they start, and keep a copy of the evidence. Depending on their documents, this is done by a manual check of original documents, a check through the Home Office online service or a check using an identity service provider for British and Irish passport holders. Record the date you did the check. Fines for employing someone without the right to work can be up to £60,000 per worker, so do not skip it.

Step 2: register as an employer

Register as an employer with HMRC before the first payday, not after. You can register up to four weeks before the first payment. HMRC will send you a PAYE reference (a three-digit number and a reference) and an Accounts Office reference, which you will need for reporting and paying. Without these, your payroll software cannot submit.

Step 3: choose payroll software

You can run payroll using HMRC's free Basic PAYE Tools for very small employers, or commercial software such as Xero Payroll, QuickBooks Payroll, FreeAgent or dedicated payroll packages. Choose software that supports Real Time Information submissions, workplace pension automatic enrolment, payslips, year-end forms and statutory payments. Many small employers outsource payroll to a bookkeeper or payroll bureau, which can be cheaper than the time and risk of doing it themselves. See payroll bookkeeping.

Step 4: collect the new starter details

For each employee you need:

• Full name, address, date of birth and National Insurance number.
• A starter checklist (this replaced the P46) confirming whether this is their only job, whether they have a student or postgraduate loan and which tax code basis to use.
• Their P45 from a previous employer, if they have one. It gives you their tax code and pay to date.
• Bank details for payment.
• Contract of employment and written statement of terms, which you must provide from day one.

If you have no starter details, HMRC's emergency tax code basis applies, which can mean too much tax is deducted at first. Collecting details early avoids that.

Step 5: run the first payroll

Each pay period you:

1. Calculate gross pay, including any overtime, bonus or holiday pay.
2. Deduct income tax using the employee's tax code, employee National Insurance at 8% on earnings between £12,570 and £50,270 a year (2% above), pension contributions and any student loan.
3. Work out employer National Insurance at 15% on earnings above £5,000 a year, per employee.
4. Pay the employee net pay on the agreed date.
5. Send a Full Payment Submission (FPS) to HMRC on or before the payday.
6. Issue a payslip showing gross pay, deductions and net pay.

See RTI: FPS and EPS explained for the reporting detail.

Worked example

Sam employs Amira part-time at £1,800 a month gross (£21,600 a year). Her tax code is 1257L.

• Monthly personal allowance: £12,570 / 12 = £1,047.50.
• Taxable pay: £1,800 − £1,047.50 = £752.50. Income tax at 20% = £150.50.
• Employee NIC: 8% × (£1,800 − £1,048) = £60.16.
• Pension (5% employee on qualifying earnings of £1,800 − £520 = £1,280) = £64.00, relieved at source or net pay depending on the scheme.
• Net pay: £1,800 − £150.50 − £60.16 − £64.00 = £1,525.34.
• Employer NIC: 15% × (£1,800 − £416.67) = £207.50.
• Employer pension (3% of £1,280) = £38.40.

Sam's real monthly cost for Amira is about £1,800 + £207.50 + £38.40 = £2,045.90, unless the Employment Allowance covers the NIC. See employment allowance explained.

Step 6: pay HMRC

The PAYE and NIC you owe, the employee's tax and NIC plus your employer NIC, minus any statutory payments you recover, must reach HMRC by the 22nd of the month after the tax month ends if paying electronically (19th by cheque). Tax months run from the 6th to the 5th. If your average monthly liability is under £1,500, you can pay quarterly. Record the liability in your books on the payroll date and clear it when you pay.

Step 7: workplace pension

From the day an eligible employee starts, you have duties under automatic enrolment. An employee aged 22 to State Pension age earning over £10,000 a year must be enrolled into a qualifying scheme, and you contribute at least 3% of qualifying earnings, with the employee contributing at least 5%, a total of 8%. You must choose a scheme, assess the employee, enrol, communicate and declare compliance to The Pensions Regulator. See auto-enrolment pensions and bookkeeping.

Step 8: insurance and other legal duties

• Employers' liability insurance is compulsory, with a minimum £5 million of cover, and you must display the certificate or make it available electronically. Fines can reach £2,500 a day.
• Minimum wage: the National Living Wage applies from age 21, with lower rates for younger workers and apprentices. Check the current rates each April.
• Holiday pay: most full-time employees are entitled to 5.6 weeks of paid leave a year, pro rata for part-time.
• Statutory sick pay and family leave may apply. See statutory sick and parental pay bookkeeping.
• Health and safety, including a risk assessment, and data protection for employee records.

Bookkeeping entries for payroll

For each payroll, your books should show:

• Debit wages and salaries (gross pay), employer NIC and employer pension cost.
• Credit net wages payable (or bank), PAYE and NIC liability, pension liability and any deductions payable.

When you pay the employee, clear net wages. When you pay HMRC, clear the PAYE liability. At the end of each month the liability balances should agree with your payroll report. See payroll bookkeeping for small employers.

Record keeping

Keep payroll records for at least three years from the end of the tax year they relate to. That includes pay records, deductions, P45s and starter checklists, statutory payment records, pension records and right to work evidence (kept for the duration of employment plus two years). Many employers keep records for six years, in line with other accounting records.

Year-end

After the last payday of the tax year, you submit a final FPS or EPS, issue P60s by 31 May and report benefits on P11D by 6 July. See payroll year-end: P60 and P11D checklist.

Common mistakes

1. Registering as an employer after the first payday.
2. Treating an employee as self-employed.
3. Skipping the right to work check.
4. Using the wrong tax code or ignoring the starter checklist.
5. Paying HMRC late.
6. Forgetting automatic enrolment.
7. Not keeping payslips and records.

Support

Our payroll bookkeeping service handles the payroll postings and reconciliations for a flat £15 an hour, and our monthly bookkeeping keeps the rest of the books tidy. See the instant quote.

Frequently asked questions

Do I need to run payroll if I only employ one person part-time?

Yes, if you pay them above the lower earnings limit or they have another job, or you need to report. Register and submit through Real Time Information in nearly all cases.

Can I pay my employee cash in hand?

No. You must run it through PAYE, and paying cash outside payroll is illegal.

When must I give a payslip?

On or before payday, on paper or electronically.

How much does it cost to employ someone?

Salary plus employer NIC, pension, insurance and holiday. Roughly 10% to 15% on top of salary.

Can you run payroll for me?

Yes. Ask for a free health check.