September 2006

77.24 The PAYE system

The PAYE system is a method for collecting and accounting for tax on employment and employer and employee National Insurance Contributions. The employer makes deductions in respect of these payments before paying the employee his/her wage or salary, and then pays the deductions made over to HMRC.

77.25 Calculation of liability and codes

Employers calculate the tax payable to HMRC using code numbers notified by HMRC. Where no code has been received, the specified emergency procedure is used to calculate the tax deductible. The code represents the tax allowances an individual is entitled to, such as the personal allowance, and the code number is the amount of allowances less the last digit. Most codes are 3 numbers followed by a letter suffix L, P, V, Y or T. L denotes the basic personal allowance. T suffix means that the code is only to be changed if a specific notification is received from the tax office and may be requested by a taxpayer who wishes his/her status to remain private.

Underpayments of tax may be collected through the PAYE scheme by adjusting the tax code. K prefix to a tax code shows that an underpayment is being collected in this way. If a bankrupt has a K prefixed tax code, HMRC should be contacted as the underpayment will be a debt provable in the proceedings and a proof of debt should be submitted. The bankrupt's tax code should then be changed and the additional income to be received may be sufficient for an income payments order to be considered.

Other prefix codes are BR (basic tax rate applies), 0T (no allowance available), NT (no tax to be deducted) and DO. The DO prefix is used if an individual has more than one employment and total income which attracts higher rate tax.

Details of the rates of income tax and personal allowances for current years can be found on the HMRC website at http://www.hmrc.gov.uk/rates/index.htm. Archived historic rates and allowances can be found at http://www.hmrc.gov.uk/rates/archive.htm

77.26 Completion of employer returns and payment to HMRC

Employers deduct tax and national insurance contributions from the employee’s weekly or monthly pay, including statutory sick pay and statutory maternity pay. The total amount deducted in each tax month together with the employer's national insurance contributions and student loan deductions is due for payment to HMRC within 14 days after the end of each income tax month (ending on the 5th day of the month) �i.e.;

• the 19th day of the month for employers who do not pay and file returns electronically., or
• the 22nd day of the month for employers who pay and file electronically

Employers who expect their average total monthly payment for PAYE and national insurance contributions to be less than £1500 may pay quarterly instead of monthly. The tax quarters end on;

1. 5 July,
2. 5 October,
3. 5 January, and
4. 5 April.

Interest is charged on unpaid PAYE and national insurance contributions for any tax year which remain outstanding after the following 22 April or 19 April as applicable. At the end of the tax year employers are required to submit an end of year return to HMRC providing details of pay, PAYE deductions and national insurance contributions for their employees (forms P14 and P35). The due date for these returns is 22 May if submitted electronically or 19 May if not submitted electronically. There are automatic penalties for the late submission of the returns.

All employers will be required to file end of year returns electronically by the tax year 2009/2010.

77.27 Provision of insolvent's wage records to HMRC (amended September 2012)

HMRC requires information about an insolvent's employees in order to submit a claim in the insolvency and also to enable the tax and national insurance records (for benefit purposes) of any employees to be brought up to date. If HMRC do not already hold sufficient information, they may request the loan of relevant documents within the employer's accounting records from the official receiver for this purpose.  Such a request will be made by the HMRC Insolvency Claims Handling Unit on a standard form, INSOL 209. In general, these records will be the employees' deductions working sheets or cards, forms P11 or appropriate substitute wages records. These documents should be sent to HMRC on loan, or photocopies may be provided instead where it is practical to do so. Where the records have been maintained on a computer system, a printout of the information required should be sent. In addition to the INSOL 209, HMRC will provide a pre-paid envelope, which should be used to send the requested records or copies to them. Where the volume of records is so large as to make the forwarding by post impractical, a local inspection by HMRC may be more appropriate.

77.27A Period covered by request for wage records (inserted September 2012)

The period covered by the request will most usually be from 6 April before the date of the insolvency to the date of the insolvency although HMRC may also request earlier records if the insolvent has failed to submit tax returns for a number of years. If the official receiver does not hold forms P11 or equivalent, he/she must inform HMRC of this fact, and if the official receiver knows where such records might be located, this information may be provided to HMRC.

77.27B Request for wage records to be referred to insolvency practitioner where appropriate (inserted September 2012)

Where a liquidator or trustee other than the official receiver has been appointed, information requests of this nature should be referred to that office holder.

77.28 PAYE and service companies

In the past an individual could pay substantially less income tax and national insurance if he/she provided contracted services by operating through an intermediary company (a service company) or partnership, most commonly by withdrawing payment from the company in the form of dividends instead of salary. With effect from April 2000 special rules have been put in place to prevent this, and these are referred to as the IR35 rules [note 1].

A company is within the IR35if;

• the circumstances are such that if the person had provided the services directly to the client under a direct contract instead of through an intermediary, he/she would be regarded as an employee of the client for income tax and national insurance purposes, and
• where the intermediary is a company, the individual (or his/her close family, including an unmarried partner) controls more than 5% of any dividends
• where the intermediary is a partnership, theindividual (or his/her close family, including an unmarried partner) controls more than 60% or more of the profit of the partnership, or where most of the partnership profits come from work for a single client, or where a partner's share of the profit is based on his/her income from relevant contracts.

Where the IR35 rules apply, PAYE and NIC are deductible and payable as usual on any salary paid by the intermediary to the worker during the year. Additional income tax and NIC is payable at the end of the tax year on the difference between the deemed payment and taxed salary taken, and this is payable by 19 April following the end of the tax year.

The intermediary must calculate the amount of the deemed payment received, which is calculated for the year to 05 April. The deemed payment is the sum of all monies and non cash benefits (e.g. provision of living accommodation or the use of assets such as a motor vehicle) received under contracts to which the rules apply, less a 5% flat rate allowable expenses deduction and then certain deductible expenses (including pension contributions.)

77.29 Subcontractors in the construction industry

Businesses in the construction industry are known as contractors and subcontractors. They may be companies, partnerships or self-employed individuals. Contractors pay subcontractors for construction operations. Under the Construction Industry Scheme (CIS), HMRC will issue companies, partnerships and self employed individuals working in the construction industry with either;

• Subcontractors Tax Certificates (CIS6, CIS5 and CIS5(partner)) to subcontractors who meet certain conditions, which allow them to be paid gross by the contractor without deductions for tax or NIC, or
• Registration Cards (CIS4(P) and CIS4(T)) to all other subcontractors, in which case contractors must deduct payments in respect of tax and NIC from all payments in respect of labour.

The scheme applies to workers who are self employed in respect of the particular contract, and not to employees, who should be paid by PAYE. Whether or not an individual is a self-employed contractor or a PAYE employee will depend on the terms of the particular contract, and not on whether a Certificate or Registration Card is held.

In order to qualify for a CIS5 or CIS6 certificate, a business must satisfy certain conditions:

• Business Test - The business must be carrying out construction work in the UK or providing labour for such work, be run from proper premises with stock, equipment and facilities, and be run through a bank account, with proper records kept.
• Compliance Test - The business must have complied with its tax obligations in a timely manner for the period of three years ending with the date of the application. It is not enough for a business to bring its tax affairs up to date shortly before making an application - it must have complied with its obligations on time.
• Turnover test - the business must have a net turnover over a certain amount. There are three turnover tests that can be used, and the rules and limits are different for companies, partnerships and sole traders.

If any of these tests are not met then a tax certificate will not be issued by HMRC, but instead a Registration Card will be issued.

When a payment is made to a subcontractor, a voucher is issued or raised that shows the amount of the payment and any tax deductions made. All subcontractors have to make a return each year, in the same way as any other self-employed person or company, and the tax liability is based on that return. They may already have paid tax by payments on account or by tax deductions made. If the amount already paid or deducted is more than the liability, HMRC will repay the balance due. If there is a tax liability outstanding, a balancing payment must be made.

More details of the construction industry scheme can be found in the HMRC leaflet "IR40(CIS) - Construction Industry Scheme. Conditions for getting a Subcontractor's Tax Certificate." Forms and leaflets produced by HMRC can be accessed at http://www.hmrc.gov.uk/leaflets/index.htm.

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