March 2011 Archive

Significant change to the PAYE treatment of payments to former employees
New PAYE regulations were published on 14 March 2011 which make a significant change to the PAYE treatment of payments to former employees. The total tax ultimately payable in respect of each such payment has not changed (and there is no change to the way in which the NIC liability operates), but the method of collection and the duties on employers will change with effect from 6 April 2011.
 
At present, and until 6 April 2011, an employer must use the BR code for PAYE purposes when making a payment where a Form P45 has already been issued to the former employee. This means that tax is deducted only at basic rate, and any further tax is collected under the self-assessment regime after the end of the relevant tax year. This obviously has cash flow advantages for employees who pay tax at the higher or additional rates.
 
Method of collection and the duties on employers will change with effect from 6 April 2011
From 6 April 2011, an employer must use the 0T tax code which applies on a “non-cumulative” basis. This means that none of the personal allowance is available and, for an employee who is paid on a monthly basis, only 1/12th of the basic rate band (and if relevant, 1/12th of the higher rate band) will be available in the month of payment. Any excess will be taxable at 50%.
 
If, therefore, a taxable payment of £20,000 is made to a former employee, the first £2,916.67 will be taxed at 20%, the next £9,583.33 at 40% and the balance of £7,500 at 50%.
 
Clearly cash flow disadvantages for the taxpayer
This treatment may increase the risk that the PAYE deduction will exceed the ultimate tax liability. If the individual has paid too much tax, the excess can be reclaimed through the end of year tax return, but there are clearly cash flow disadvantages for the taxpayer.
 
The new regulations will apply equally to payments to former employees under employee share plans. If, for example, a former employee exercises an unapproved share option which triggers an income tax liability in respect of the “gain” element, the former employer may need to deduct a larger sum under the new regulations than would have been the case previously.
 
Employers should therefore ensure that their PAYE operators are aware of the new regulations. They may also wish to communicate with employees who are about to leave employment or may recently have done so, and who may have been expecting only a deduction at basic rate from payments due to them on or after 6 April 2011.