Chris Thorpe considers some of the factors employers need to consider when taking on employees.
When considering how much to pay their new employees, there are a few basic issues that employers need to consider.
National minimum wage
Employment law issues aside, there is a national minimum wage (NMW). From April 2023, those rates are £10.42 per hour, £10.18 for 21-22-year-olds, £7.49 for 18-20s and £5.28 for 16-17-year-olds.
Once they have considered how many hours an employee will be working, the law will tell a business owner the minimum they can pay that employee – so that’s part of the decision made for them.
National Insurance contributions
One of the biggest factors when considering the salary levels for both employees and company officers is secondary National Insurance contributions (NICs).
This is essentially a tax on employing people. Employees pay primary Class 1 NICs on salaries above the personal allowance of £12,570 (from April 2023), deducted through PAYE along with income tax, but employers also pay 13.8% of the employees’ salaries above £9,100. Employers can benefit from a £5,000 band of 0% for total secondary NICs liabilities, but this cannot apply if a single company director is the only employee on a company’s books.
When directors consider what to pay themselves, £9,100 could be deemed an annual maximum to avoid their company’s paying any secondary NICs – the NMW does not apply to directors’ fees, so smaller nominal salaries are possible. A director, who is also a shareholder, will be getting the vast majority of their remuneration via dividends, which attract lower income tax rates and no NICs.
However, with regard to other employees, it may be that the NICs bill will influence how many hours an employer can afford to pay for.
Income and corporation tax
The biggest factor in deciding how much an employee is being paid is what work they are actually doing and how much that is worth.
There will be a market for employees, particularly those with professional qualifications or particular skills; the labour market will determine what to pay.
The ability for an employer to make income or corporation tax deductions for salaries paid will largely follow this labour market insofar as those deductions can only be for expenses incurred ‘wholly and exclusively’ for business purposes. If the salary deductions are deemed to be too large for an employee when considering the work they do or hours worked, HMRC will disallow the excess.
Amounts too low could likewise attract attention (aside from any legal issues), as HMRC might ask whether the recipient is a genuine employee or whether such amounts are payments to family members or friends (i.e., something non-business related).
Shares incentives
As well as cash payments, companies may be in a position to pay their employees in shares or share options. These are treated largely the same as cash insofar as income tax is concerned, although certain option schemes like enterprise management incentives (EMI) or company share options plans (CSOPs) allow for greater tax incentives. NICs are only charged if those shares are ‘readily convertible’ assets (i.e., liquid), which is less likely to be the case with smaller private companies.
On similar lines, an unincorporated business might wish to make an employee a partner rather than pay them a salary attracting NICs. Like with share schemes, the driving force behind this should really be wanting to retain the employee, as they would become part and parcel of the business rather than simply hired help.
Practical tip
Employing someone is a responsible business, taking someone’s livelihood into your hands. The law is very strict and the NMW may guide many (smaller) employers’ decisions as to salary. However, tax will also play its part – the burden of secondary NICs potentially being a major factor for smaller businesses. As long as salaries follow the labour market, HMRC is unlikely to intervene. If at all feasible, paying people as directors, shareholders or partners rather than employees may help mitigate the employer’s tax burden but the commercial factors are the main ones to follow.
