What has changed?

Previously, payments made to an employee who has already received their form P45 should have been made with the basic rate of tax (20%) deducted.

Following a change made by HM Revenue & Customs (HMRC) effective from 6 April 2011 payments made to ex employees should now be made using the D0 tax code on a month 1 basis – which deducts the appropriate rate of tax (20% / 40% / 50%) depending on the amount of the payment.

For national insurance, if the payment is a regular sum such as a final payment of salary, you should calculate the national insurance using the employee’s usual contribution letter and applying the rates and limits for the usual earnings period (e.g. weekly/monthly etc).  If the payment is an irregular sum such as accrued holiday pay or an unexpected/backdated bonus you should calculate the national insurance using the employee’s usual contribution letter and applying the rates and limits for the weekly earnings period in which the payment was made.

The employee should not be issued with another form P45 after this payment has been made.  You should instead provide the employee with documentary confirmation of the payment showing the following details:

• the date of the payment(s)
• the gross amount of each payment
• the amount of PAYE deducted from each payment
• confirmation that the payment is a post leaving payment.

This can be provided in the form of a letter or a payslip.

The additional payment will need to be reported to HMRC at the end of the payroll year via forms P14 and P35.

The effect of the change:

The change in tax code used to make payments to ex employees effectively means that for any payments over £12,500 the excess will be taxed at 50%, and could lead to overpayments of PAYE for those employees that receive a large payment in the month but did not breach the 50% tax bracket for the overall year.  Any under/overpayments of PAYE will be dealt with at the end of the tax year either via self assessment or by the employee contacting HMRC directly.

To avoid under/overpayments, the employer may wish to consider staggering the payments across more than one month, or ensuring that all payments due to the employee are made before the issue of form P45.

For more advice on this area or to discuss other payroll matters please contact us.