PAYE Settlement Agreements: A Practical Guide for Employers

A PAYE Settlement Agreement (PSA) is a formal arrangement between an employer and HMRC that allows employers to settle an employee tax liabilities on minor or irregular benefits and expenses payments.

Sometimes employers provide employees with benefits or reimbursements that, while relatively small or occasional, still create a taxable liability. Employees may not expect to be taxed on these amounts, and an unexpected tax bill can be unwelcome. A PSA allows the employer to assume the tax liability, meaning employees effectively receive these benefits tax-free.

PSAs are not just a gesture of goodwill, they also simplify administration for employers:

• Employers do not need to report these payments through monthly PAYE returns or on employees’ P11D forms.

• A single annual payment to HMRC can cover all tax and class 1B National Insurance contributions for the benefits included in the PSA.

• Employees have no reporting responsibilities and no additional tax liability, making it easier for them to manage their finances.

Benefits and Expenses Eligible for a PSA

A benefit or expense can be included in a PSA if it is:

• Minor

• Paid on an irregular basis

• Provided in circumstances where it is impractical to apply PAYE or apportion the value among multiple employees

Examples of benefits and expenses that may be included:

• Staff entertainment (e.g., tickets to sporting events or concerts)

• Incentive awards and small bonuses

• Reimbursement of non-exempt taxi expenses

• Provision of a pool car where exemption conditions are not met

Important: Trivial benefits costing £50 or less for a non-work-related reason are exempt and do not need to be included in a PSA.

Irregular items may include payments such as relocation expenses exceeding the exempt threshold.

Example:

If a Christmas party costs £150 or less per employee, it is exempt from tax. If the cost exceeds £150, the entire amount becomes taxable. Employers often include this in a PSA to cover the tax liability, ensuring employees can enjoy the benefit without facing a surprise tax bill.

PSAs should not be used for cash salary, lump sum allowances, or major benefits like company cars or low-interest loans. Their purpose is to simplify the tax treatment of minor and irregular benefits, not replace normal payroll processes.

How a PSA Operates

A PSA can be entered into at any time before 06 July following the end of the first tax year it covers. Once established, the agreement is ongoing and does not require annual renewal, unless it needs to be amended or cancelled by either the employer or HMRC.

The agreement clearly specifies:

• Which benefits are included

• Which employees are covered

• How the tax is calculated for each benefit

If a PSA is agreed after the tax year has started, benefits provided before the agreement cannot be included if they already had PAYE applied or were reflected in the employee’s tax code.

Tax and National Insurance under a PSA

Once the benefits are agreed with HMRC, the employer pays the tax and NIC on a grossed-up basis. This means the employer accounts for both the value of the benefit and the tax that would be due, ensuring that the employee receives the benefit fully tax-free.

Payment Due Date

The PSA liability, including both tax and Class 1B NIC, is due by 22 October following the end of the tax year if paid electronically, or by 19 October if paid by post. This ensures that all payments are made promptly and keeps the agreement compliant with HMRC rules.

Key points for calculating the tax:

• Include the full cost of the benefits provided to employees

• Use each employee’s marginal income tax rate to ensure the correct amount of tax is covered.

• Apply the standard UK income tax rates, when calculating the grossed-up tax.

By handling the tax this way, the PSA removes the administrative burden for both the employer and employees, allowing minor benefits to be provided smoothly and without confusion.

Speak to an Expert

A PAYE Settlement Agreement can simplify the tax treatment of minor and irregular benefits, but it has specific rules and requirements. Professional guidance ensures your PSA is structured correctly and fully compliant.

We can help you to determine which benefits and expenses can be included, calculate grossed-up tax accurately, and manage reporting to HMRC.

A well-planned PSA can save time, reduce administrative work, and provide employees with a tax-free benefit, all while keeping your business compliant and maintaining employee goodwill. If you’re unsure how a PSA could work for your business, contact us today for tailored advice and support.

Authored by: London Team