How to pay employees: simple steps for UK small businesses

Published Friday 15 May 2026

Table of contents

• Understanding your legal obligations when paying employees
• Setting up PAYE with HMRC
• Payment methods for your employees
• How often you need to pay employees
• Essential deductions from employee pay
• Choosing the right payroll system
• Step-by-step guide to paying employees
• Common payroll mistakes and how to avoid them
• Reporting requirements and record-keeping
• Simplify paying employees with Xero
• FAQs on paying employees

Key takeaways

• National minimum wage rises from April 2026. The rate for workers aged 21 and over increases to £12.71 per hour, so you'll need to update your payroll before the new tax year begins.
• PAYE registration is essential before your first pay run. You must register as an employer with HMRC and receive your activation code, which can take up to 15 working days, before you can start reporting payroll.
• Accurate deductions protect you and your employees. Income tax, National Insurance contributions (NICs) at 8% for employees, and auto-enrolment pension contributions all need to be calculated correctly each pay period.
• Real Time Information (RTI) submissions are non-negotiable. You're required to report payroll information to HMRC on or before each payday, and late submissions can result in penalties.

Understanding your legal obligations when paying employees

Before you run your first payroll, it's worth understanding the legal framework around paying employees in the UK. Getting this right from the start helps you avoid penalties and keeps your team paid correctly and on time.

As an employer, you're legally required to pay at least the national minimum wage (NMW) or national living wage (NLW). From April 2026, the rate for workers aged 21 and over rises to £12.71 per hour. Rates differ for younger workers and apprentices, so check the latest figures on HMRC's rates and thresholds page before each tax year.

You also need to provide workplace pensions through auto-enrolment. Eligible employees must be enrolled into a qualifying pension scheme, with a minimum total contribution of 8% of qualifying earnings (at least 3% from you as the employer).

Holiday pay is another legal requirement. Full-time employees are entitled to a minimum of 28 days' paid annual leave per year, including bank holidays. You must calculate holiday pay based on the employee's normal earnings, including regular overtime and commission where applicable.

From 6 April 2026, statutory sick pay (SSP) entitlement changes under the Employment Rights Act 2025. Employees become eligible for SSP from day one of their illness, removing the previous 3-day waiting period. Make sure your payroll system reflects this update.

You're also responsible for issuing the correct tax documents. When an employee leaves, you must provide a P45 showing their pay and deductions for the current tax year. At the end of each tax year, every employee should receive a P60 summarising their total pay and deductions.

Setting up PAYE with HMRC

Pay As You Earn (PAYE) is the system HMRC uses to collect income tax and NICs from employees' wages. You need to register for PAYE before your first payday if you pay any employee £123 or more per week. You can learn more about what PAYE is and how it works to get a fuller picture of the system.

Follow these 5 steps to register and set up PAYE:

1. Register as an employer with HMRC. You can do this online through the HMRC employer registration page. You'll need your business details, including your company registration number if applicable.
2. Wait for your employer PAYE reference and accounts office reference. HMRC will post these to you along with an activation code. Allow up to 15 working days for delivery, so register well before you plan to run your first payroll.
3. Activate your PAYE account online. Use the activation code from HMRC to access your employer account and PAYE online services.
4. Choose payroll software that supports RTI. Your software needs to submit Full Payment Submissions (FPS) and Employer Payment Summaries (EPS) directly to HMRC each pay period.
5. Collect employee details. Gather each employee's P45 from their previous employer, or have them complete a starter checklist. You'll also need their National Insurance number, address, and bank details.

Payment methods for your employees

Choosing the right payment method affects how quickly your employees receive their wages and how much each transaction costs you. Most UK employers use electronic bank transfers, but there are several options available.

Here are the most common ways to pay your employees:

• BACS (Bankers' Automated Clearing System). This is the most widely used method for payroll in the UK. Payments take 3 working days to clear, and the per-transaction cost is typically very low, often just a few pence. BACS is reliable and cost-effective for regular payroll runs.
• Faster Payments. If you need wages to reach employees on the same day, Faster Payments is a good alternative. Transfers usually arrive within hours, though transaction fees tend to be slightly higher than BACS. This works well for urgent or ad hoc payments.
• CHAPS (Clearing House Automated Payment System). CHAPS guarantees same-day settlement for high-value payments. The fees are significantly higher, so it's not practical for routine payroll but can be useful for one-off large payments.
• Cheques. Some businesses still issue cheques, though they're increasingly uncommon. Cheques are slower to clear and carry a higher risk of being lost or delayed.
• Payroll cards and digital platforms. Prepaid payroll cards and digital wallets are gaining traction, particularly for businesses with employees who don't have traditional bank accounts. These platforms load wages directly onto a card or app, giving employees instant access to their pay.

Cash payments are legal, but you must still deduct tax and NICs and keep thorough records. Electronic methods are simpler to audit and provide a clear paper trail for HMRC.

How often you need to pay employees

There's no single legal requirement for how often you pay employees, but whatever frequency you choose must be stated in each employee's contract. Consistency matters, as your team relies on knowing when they'll be paid.

The most common pay frequencies in the UK are:

• Weekly. Common in industries like retail, hospitality, and construction where cash flow is tight and employees prefer frequent payments.
• Fortnightly. A middle ground that reduces admin compared to weekly payroll while still giving employees relatively frequent pay.
• Four-weekly. Employees receive 13 payments per year instead of 12, which can simplify budgeting for hourly workers.
• Monthly. The most popular choice for salaried employees and the easiest to administer, with 12 pay runs per year.

Consider your industry norms, your cash flow, and the admin workload for each option. Monthly payroll requires less processing time, while weekly payroll means more pay runs but can help employees who manage their finances week by week.

Essential deductions from employee pay

Every time you run payroll, you need to calculate and apply the correct deductions before paying your employees. Getting these wrong can lead to penalties from HMRC and underpayment issues for your staff.

Here are the key deductions for the 2026/27 tax year:

Income tax

You deduct income tax from your employees' wages based on their tax code and the current rates. For 2026/27, the rates remain:

• Basic rate: 20% on earnings between £12,571 and £50,270
• Higher rate: 40% on earnings between £50,271 and £125,140
• Additional rate: 45% on earnings above £125,140

Employee National Insurance contributions

Employees pay National Insurance at 8% on earnings between £12,570 and £50,270 per year. Earnings above £50,270 are charged at 2%. You're responsible for calculating and deducting these amounts each pay period.

Employer National Insurance contributions

As an employer, you pay NICs at 15% on each employee's earnings above the secondary threshold of £5,000 per year. This is a cost to your business on top of wages, so factor it into your overall employment budget.

Pension contributions

Under auto-enrolment, the minimum total pension contribution is 8% of qualifying earnings. You must contribute at least 3%, and the employee contributes the remaining 5%. You can learn more about your obligations on The Pensions Regulator's website.

Student loan repayments

If an employee has a student loan, HMRC will notify you through their tax code. For Plan 2 loans, the employee repays 9% of earnings above the repayment threshold. You deduct this directly from their wages alongside tax and NICs.

Other deductions

You may also need to process court-ordered deductions such as attachment of earnings orders, child maintenance payments, or council tax arrears. Always follow HMRC or court instructions precisely when applying these.

Choosing the right payroll system

Your payroll system handles the calculations, deductions, and reporting that keep you compliant with HMRC. Choosing the right one saves time, reduces errors, and keeps your business on the right side of the law.

When evaluating small business payroll options, look for these features:

• RTI compliance. Your software must be able to submit Full Payment Submissions and Employer Payment Summaries to HMRC automatically on or before each payday.
• Auto-enrolment support. The system should manage pension enrolment, opt-outs, re-enrolment dates, and contribution calculations without manual intervention.
• Tax code management. It should apply HMRC tax code notices automatically and flag any changes for your review.
• Payslip generation. Employees must receive a payslip on or before each payday, so your system should produce these automatically.
• Cloud access. Cloud-based online payroll software lets you run payroll from anywhere and keeps data backed up securely.
• Integration with accounting software. Payroll data should flow directly into your accounts to reduce double entry and keep your books accurate.

Some businesses outsource payroll to an accountant or bureau. This can work well if you don't have the time or confidence to manage it yourself, but you're still legally responsible for ensuring everything is reported correctly.

Step-by-step guide to paying employees

Running payroll follows the same basic process each pay period. Once you've set up your system, these steps become a routine part of managing your business.

Here's how to complete a pay run:

1. Review hours and attendance. Confirm the hours worked, overtime, holiday, and sick leave for each employee. Accuracy here prevents pay disputes and incorrect deductions.
2. Calculate gross pay. Work out each employee's total earnings before deductions, including any bonuses, commission, or overtime.
3. Apply deductions. Your payroll software calculates income tax, NICs, pension contributions, student loan repayments, and any other deductions based on each employee's tax code and circumstances.
4. Process payments. Send the net pay to each employee's bank account using your chosen payment method, whether that's BACS, Faster Payments, or another option.
5. Submit your FPS to HMRC. File your Full Payment Submission on or before payday. This reports each employee's pay and deductions for that period.
6. Issue payslips. Provide each employee with a payslip on or before their payday. The payslip must show gross pay, deductions, and net pay at a minimum.

Common payroll mistakes and how to avoid them

Payroll errors are surprisingly common among small businesses, with a high proportion of SMEs reporting at least one payroll mistake each year. The good news is that most of these are preventable with the right processes in place.

Here are the mistakes to watch for:

• Late RTI submissions. HMRC expects your Full Payment Submission on or before each payday. Late filing can trigger automatic penalties starting at £100 per month for small employers, increasing with the number of employees.
• Incorrect tax codes. Applying the wrong tax code means your employees either overpay or underpay tax, creating problems for both them and you at year end. Always check HMRC notifications and update codes promptly.
• Missing pension auto-enrolment deadlines. You must assess and enrol eligible employees within specific timeframes. Late enrolment can lead to fines from The Pensions Regulator and back-dated contributions you'll need to cover.
• Paying below the national minimum wage. This includes failing to account for wage increases at the start of each tax year. HMRC actively investigates NMW underpayments, and penalties can reach 200% of the underpaid amount.
• Not issuing payslips on time. Every employee is legally entitled to a payslip on or before their payday. This must include gross pay, deductions, and net pay. Missing or late payslips can result in employment tribunal claims.

The simplest way to avoid these issues is to use reliable payroll software, set calendar reminders for key deadlines, and review your payroll processes at the start of each tax year when rates and thresholds change.

Reporting requirements and record-keeping

Accurate reporting and thorough record-keeping aren't just good practice; they're legal requirements. HMRC expects timely submissions and can request access to your payroll records at any time.

Real Time Information (RTI) submissions

You're required to send two main types of report to HMRC:

• Full Payment Submission (FPS). This is sent on or before each payday and includes details of each employee's pay, tax, and NICs for that period.
• Employer Payment Summary (EPS). You submit this if you need to report statutory payments (such as maternity or sick pay), claim the Employment Allowance, or report that no employees were paid in a tax month.

P45 and P60 forms

When an employee leaves your business, you must issue a P45 within a reasonable timeframe. This document shows their total pay and deductions for the current tax year and helps their next employer apply the correct tax code. At the end of each tax year (by 31 May), you must provide every current employee with a P60 summarising their total pay and deductions for the year.

Record-keeping requirements

HMRC requires you to keep payroll records for at least 3 years after the end of the tax year they relate to. Your records should include:

• payments made to each employee and deductions applied
• reports and submissions sent to HMRC
• employee start and leave dates
• tax code notices and changes
• benefits and expenses provided

Storing records digitally in cloud-based software makes them easier to organise, search, and share with your accountant or HMRC when needed.

Simplify paying employees with Xero

Paying employees involves a lot of moving parts, from calculating deductions and filing RTI submissions to issuing payslips and keeping records. Getting any of these wrong can cost you time and money.

Xero's cloud-based payroll software handles tax calculations, pension contributions, and HMRC reporting in one place. It automates the repetitive tasks so you can focus on running your business rather than wrestling with spreadsheets and manual submissions.

Try Xero for your payroll and accounting; get one month free.

FAQs on paying employees

Here are answers to some frequently asked questions about paying employees in the UK.

How do I pay employees for the first time?

Register as an employer with HMRC, wait for your PAYE activation code, set up payroll software, and collect each employee's details (P45 or starter checklist, National Insurance number, and bank details). Once everything is in place, run your first pay cycle and submit your FPS to HMRC on or before payday.

Can I pay employees in cash?

Yes, cash payments are legal, but they require extra diligence. You must issue itemised payslips, keep a signed receipt for each payment, and retain these records for at least 3 years. HMRC may scrutinise cash-based payroll more closely during compliance checks, so a clear paper trail is essential.

What happens if you pay employees late?

Late payment can damage trust and, in some cases, breach your employees' contracts. It may also affect your ability to file RTI submissions on time, which can trigger HMRC penalties.

How often should I pay employees?

It depends on your industry and workforce. If you want to switch frequency mid-year, give employees written notice and update their contracts before the change takes effect. Moving from weekly to monthly, for example, may require a bridging payment to avoid a gap in wages.

Do I need to give my employees a payslip?

Yes. You're legally required to provide a payslip on or before each payday. It must show gross pay, deductions (including tax and NICs), and net pay. From April 2019, this requirement also extends to workers and those on zero-hours contracts.

Xero does not provide accounting, tax, business or legal advice. This guide has been provided for information purposes only. You should consult your own professional advisors for advice directly relating to your business or before taking action in relation to any of the content provided.