PAYE Compliance: Avoiding Common Mistakes and Penalties

PAYE penalties are easy to pick up and slow to shake off. Because payroll runs every week or month, a small process problem can repeat many times before anyone notices, and each repeat can bring another charge. HMRC sees payroll in real time, so late reports and late payments are spotted quickly. This guide explains the main PAYE penalties, what triggers them, the payroll mistakes that cause them most often, and how to keep your business compliant.

How HMRC watches payroll

Under Real Time Information (RTI), you send a Full Payment Submission (FPS) on or before every payday, showing what you paid each employee and what you deducted. You then pay HMRC the total by the 22nd of the following tax month if you pay electronically. Because HMRC compares what you report with what you pay, gaps show up within weeks, and PAYE penalties follow automatically in many cases.

PAYE penalties for late reporting

If an FPS reaches HMRC after the payday it covers, or you do not send an Employer Payment Summary (EPS) when you paid nobody in a tax month, you can be charged a monthly late filing penalty based on the number of employees:

• 1 to 9 employees: £100 a month
• 10 to 49 employees: £200 a month
• 50 to 249 employees: £300 a month
• 250 or more employees: £400 a month

The first month in each tax year where you file late does not normally bring a penalty, and HMRC does not usually charge if an FPS is only up to three days late, unless it happens regularly. If a return is more than three months late, HMRC can charge an extra 5% of the tax and National Insurance that should have been reported.

New employers get a little breathing space: there is no penalty if your first FPS arrives within 30 days of paying your first employee.

PAYE penalties for late payment

Late payment penalties depend on how many times you have paid late in the tax year. The first late payment in a year does not count as a default. After that, the penalty is a percentage of the amount paid late:

• 1 to 3 defaults in the year: 1%
• 4 to 6 defaults: 2%
• 7 to 9 defaults: 3%
• 10 or more defaults: 4%

If an amount is still unpaid after six months, HMRC adds a further 5%, and another 5% after 12 months. Interest is charged on top from the due date until payment. Penalties are usually issued quarterly, so a bad run can arrive as one large bill.

Penalties for inaccurate returns

Getting figures wrong can cost more than being late. If an error in your payroll returns means too little tax or National Insurance was paid, HMRC can charge a penalty based on the behaviour behind it:

• Careless: up to 30% of the extra tax due
• Deliberate: up to 70%
• Deliberate and concealed: up to 100%

Penalties can be reduced, sometimes to nothing for careless errors, if you tell HMRC about the problem before they find it and help put it right. That is why fixing and disclosing errors quickly matters so much.

The payroll mistakes behind most PAYE penalties

Paying staff before sending the FPS

The FPS must arrive on or before payday. Paying employees on Friday and running the payroll report on Monday makes every submission late. Run payroll first, submit, then pay.

Forgetting the EPS in a month with no pay

If you pay nobody in a tax month, HMRC still expects to hear from you. Without an EPS, HMRC may estimate what you owe and chase you for it, and you may be charged a late filing penalty.

Using the wrong tax code

Leaving a new starter on an emergency code, or ignoring a code change notice from HMRC, means the wrong tax is deducted. Always apply the latest code HMRC sends you.

Missing benefits in kind

Company cars, private medical insurance and other benefits must be reported, either through payroll or on form P11D by 6 July after the tax year. Late P11D(b) forms bring their own penalties, and the Class 1A National Insurance on benefits is due by 22 July.

Treating workers as self-employed when they are employees

If someone works like an employee, under your control and as part of your business, HMRC may treat them as one, whatever the contract says. You could then owe the tax and National Insurance you should have deducted, plus penalties. Check employment status carefully, especially for long-term contractors.

Ignoring student loan and postgraduate loan notices

When HMRC tells you an employee has a student loan or postgraduate loan, you must start the deductions from the next payday. Missing the notice means under-deducting, which then has to be corrected and may be recovered from the business.

Paying below the minimum wage

Underpaying the National Minimum Wage or National Living Wage, including through unpaid overtime, uniform costs or deductions, can lead to arrears, penalties of up to 200% of the arrears and being publicly named.

Late or missing year-end forms

Every employee working for you on 5 April must receive a P60 by 31 May. Anyone who leaves during the year needs a P45. These are legal requirements, not just good practice.

Correcting payroll errors the right way

Mistakes in payroll are common, and HMRC expects you to correct them through your payroll software rather than by letter.

• Errors in the current tax year: correct them on your next regular FPS, adjusting the year-to-date figures so the totals are right.
• Errors in a previous tax year: send a corrected FPS for that earlier year, showing the right year-to-date figures for the affected employees.
• Wrong payment amounts: if you paid HMRC too much or too little, the corrected submissions update what you owe, and you pay any shortfall straight away.

Correcting quickly and openly keeps any inaccuracy penalty as low as possible, because HMRC reduces penalties for errors you tell them about before they find them.

Statutory payments

Statutory Sick Pay, Statutory Maternity Pay, Paternity Pay and similar payments all go through payroll. Getting the qualifying rules or the rates wrong is a common source of errors, and so is forgetting to recover the amounts you are entitled to claim back. Most employers can recover 92% of statutory maternity, paternity, adoption and shared parental pay, or more if they qualify for Small Employers' Relief, by claiming through an EPS.

Auto-enrolment: penalties from a different regulator

Workplace pension duties are policed by The Pensions Regulator, not HMRC, but they sit right next to payroll. Failing to enrol eligible staff, pay contributions on time or file your declaration of compliance can lead to fixed penalties and escalating daily penalties. Make sure your payroll and pension provider are connected and that new starters are assessed every pay period.

How to avoid PAYE penalties

1. Fix your payroll calendar. Set a run date a few working days before each payday, so the FPS always goes first.
2. Pay HMRC by direct debit or schedule the payment as soon as payroll is finished, well before the 22nd.
3. Keep starter and leaver paperwork complete. Collect P45s or starter checklists before the first pay run.
4. Act on every HMRC notice. Tax code changes, generic notification messages and penalty warnings all need a response.
5. Reconcile monthly. Compare what your software says you owe with what HMRC's records show in your business tax account.
6. Review status and benefits each year. Before the year end, check contractor arrangements and benefits so P11Ds are right first time.
7. Get help when the business changes. A new pay frequency, a director's salary, or staff working abroad all bring new rules.

What to do if you receive a PAYE penalty

Read the notice carefully and check it against your records. If the payment or report was made on time and HMRC's records are wrong, appeal with the evidence. If something outside your control caused the delay, such as a software failure, a serious illness or a bereavement, you may have a reasonable excuse. Appeals usually need to be made within 30 days. If the penalty is right, pay it promptly to stop interest building and fix the cause so it does not repeat.

PAYE penalties: key points

• Late FPS penalties run from £100 to £400 a month depending on how many employees you have.
• Late payment penalties range from 1% to 4% depending on how often you are late, with extra 5% charges at six and 12 months.
• Inaccuracy penalties can reach 100% of the tax lost for deliberate, concealed errors.
• Most PAYE penalties come from process problems: paying before reporting, missing EPS submissions, wrong tax codes and late year-end forms.

HMRC's guidance is on GOV.UK: penalties for late payroll reports and late payment penalties for PAYE.

Keep your payroll on the right side of HMRC

If you are just setting up as an employer, start with our guide to PAYE registration. We can register you with HMRC and set up compliant payroll from your very first payday. See our PAYE registration service.