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End of year returns and Payroll technology

The increasing use of automated payroll systems has simplified the payroll process, payroll deductions and interface with HMRC. Payslips can now be created in seconds with high accuracy and very little cost. In this tax guide we look at the impact of technology on tax calculations and tax returns and provide links to our free P60, payslip and payroll calculators and tools.

Depending on the capability of the Payroll Software, end of year returns can be filed electronically directly from the employer to HMRC. This direct transfer of payroll data allows HMRC to automatically process the majority of employees and transmit the new Tax Codes for those employees directly back to the employer, thereby allowing for a fast and more efficient end of year payroll process.

There are a number of Payroll Software solutions available on the market, they vary in price depending on the range or features and facilities and can be transitionally priced based on the number of employees and/or the number of actions you make (printing, calculations etc.). Most of the activities provided by those payroll systems are also available free on iCalculator, use the search feature to find the tools, this will allow you to understand whether you need the specific 'bells and whistles' that the payslip / payroll software provides or if something more straightforward will work for you. You may even prefer to simply stick with using the free payslip creator and payroll solutions provided free on iCalculator, it all depends on your specific requirements.

Manual Payroll Calculations

HMRC do still support employers who prefer to provide manual end of year returns though the trend is moving increasingly towards full automation of payroll. The downside of manual end of year returns is the delay, technology typically means faster payroll processes. A manual end of year payroll return will need to be manually entered by HMRC into their systems. As the end of year timing is the same for all employers this means a significant increase in workload so can lead to delays in HMRC issuing new tax codes for employees of companies who file their returns manually though HMRC normally handle the peak period very effectively and delays are the exception rather than the norm, the increasing use of payroll technology by employers makes each year easier to manage.

HMRC Payroll Validation and Tax Code calculation

Having received the End of year summary for each employee, HMRC will validate the payroll data, specifically looking at:

  1. Each employees income (in current and previous employment) and any additional income.
  2. Reviewing the current Tax Code to ensure correct and confirming the Final Tax Code, this allows HMRC to calculate the taxable amount of income for the employee.
  3. The amount of PAYE deducted throughout the tax year, this is then compared to HMRC's own calculation based on points 1 and 2 above to identify whether the PAYE calculation is correct or whether an under/over payment has been made.
  4. The amount of NIC deducted throughout the tax year, this is then compared to HMRC's own calculation based on points 1 and 2 above to identify whether the NIC calculation is correct or whether an under/over payment has been made.

Once HMRC have completed the above process they will look at the standard Tax code for the next Tax Year and adjust it as necessary to allow for any under/over payments made during the last tax year.

For example, after comparing payroll deductions HMRC identify that Tim has underpaid PAYE by £200. The standard Tax Code for the next Tax Year is 1100L. HMRC adjust the tax code to 1000L. This means that Tim will start to pay tax when his annualized earning reach £10,000.00 rather than the standard £11,000.00. As tax will be deducted at 20%, the reduced threshold means that Tim will pay £200 (20% of £1000 = £200) of additional PAYE income tax in the next Tax Year which will balance out the underpayment in the previous Tax Year.

HMRC can also make the same adjustment in the employees favour when they have paid too much PAYE though typically will issue tax refund via a cheque or credit via an adjusted PAYE calculation within the Payroll software.

If there are any adjustments to the Standard Tax Code HMRC will send a letter directly to the employee and explain what the changes are, how they were calculated and what action is being taken. If the employee is not happy with the decision, they can contact HMRC and discuss their concerns and identify alternative options.

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