What is a PAYE Settlement Agreement (PSA) and how does it work?

Full answer

A PSA is an arrangement between an employer and HMRC that bundles up the tax and National Insurance due on specific employee benefits so the employer pays it all in one yearly settlement. It is used where reporting a benefit individually would be disproportionate, or where the employer simply wants the employee to receive the perk free of any tax or NI deduction. Three categories of expense or benefit can go into a PSA: minor items (such as a small gift), irregular items (such as a one-off relocation cost above an exemption), and items that are impractical to apply PAYE to or to share out fairly between employees (such as a staff party that exceeds the annual events exemption, or shared taxis home). Items that are part of an employee's normal pay, or salary-sacrifice arrangements, cannot go in a PSA. The mechanics matter. Because the employer is meeting a liability that would otherwise fall on the employee, the tax must be grossed up at the employee's marginal rate. For a basic-rate employee the income tax is grossed at 20%, for a higher-rate employee at 40%, and for an additional-rate employee at 45%; in Scotland the relevant Scottish band rate (for example 42% higher) is used. On top of the grossed-up tax, the employer pays Class 1B National Insurance at the employer rate of 15% on both the value of the benefits and the tax itself. Worked example: a GBP 1,000 benefit given to a higher-rate (40%) employee grosses up to about GBP 1,667 of value, the income tax is roughly GBP 667, and Class 1B at 15% applies to the GBP 1,667 total - so the employer's outlay is well above the headline GBP 1,000. A PSA must be agreed with HMRC by 5 July following the tax year, with payment of the tax and Class 1B NI typically due by 22 October (electronically). Once agreed, a PSA can roll forward each year unless varied or cancelled.

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