PAYE – complete payroll guide for limited company contractors

The PAYE (Pay As You Earn) system is how HMRC collects Income Tax and National Insurance from employees’ earnings. Here’s how it works for contractors, and what’s involved in setting up your company payroll.

If you’re an umbrella company contractor or a limited company director who takes a salary, any tax due on that salary will be deducted via PAYE.

How the PAYE system works

Employers are responsible for calculating and deducting the correct amount of tax and National Insurance from their employees’ wages.

Every time staff are paid, the details are sent to HMRC under Real Time Information (RTI). The tax and NIC amounts are held back by the employer and paid over to HMRC by the payment deadline.

So, how does PAYE apply to contractors?

1. Umbrella company employees

Umbrella company workers receive payslips each week or month, with tax and NIC already deducted. The umbrella company handles payroll and manages all HMRC submissions and payments. Find out more here.

2. Limited company employees

If you run your own company, your accountant – or your accounting software – will run payroll for you each month and produce your payslip.

Your company is then responsible for paying any PAYE and NIC to HMRC. For most contractor companies, this is quarterly.

At the end of each tax year (6 April to 5 April), every employee must be given a P60 summarising their total pay and deductions. Thanks to RTI, payroll data is reported to HMRC every time the payroll is run rather than just once a year.

Limited company payroll

If you plan to trade through your own limited company, you’ll need to set up payroll.

Most contractors leave this to their accountant, but you can also manage it yourself using HMRC-recognised payroll software such as FreeAgent and Xero.

What you need before you run payroll

Before paying yourself or any employees, make sure you have:

• Your employer PAYE reference and Accounts Office reference from HMRC.
• Each employee’s details, including National Insurance number, date of birth, address, and bank account.
• A P45 from their previous employer, or a completed HMRC starter checklist if no P45 is available.
• Payroll software set up and connected to HMRC for RTI submissions.

The basic steps to set up and run payroll are:

1. Register your company as an employer with HMRC.
2. Register each employee with HMRC (using details from their P45 if available).
3. Each pay run, your payroll software will submit the details to HMRC via RTI.
4. Pay any tax and NIC to HMRC by the relevant deadline.

Payroll deadlines

If the combined PAYE and NIC liability for all staff averages £1,500 or more a month, you must pay HMRC monthly. If it’s less – as is typical for small contractor companies – you can pay quarterly.

Payments are due within 14 days of the end of the tax month (the 5th). That means the 19th of the month by post, or the 22nd if you pay electronically.

Umbrella companies handle all payroll obligations for their employees. If you’re a director, your accountant or payroll software should confirm exactly how much to pay and when.

Penalties for late payroll

If you miss an RTI submission deadline, HMRC can issue automatic late filing penalties.

For employers with one to nine employees, this is usually £100 per month.

Late payment of PAYE or NIC also attracts interest charges. Persistent non-compliance can lead to higher penalties and potential enforcement action.

Tax codes

A tax code tells the employer how much tax to deduct from an employee’s wages. The standard code for 2025/26 is 1257L, which reflects the £12,570 personal allowance (the digits multiplied by 10).

Read our full guide to tax codes to see how they work and how they affect take-home pay.

Benefits in kind

If your company provides you with a personal benefit – for example, a company car – you must pay tax on the value of that benefit.

Benefits are reported on a P11D form, which must be filed by 6th July following the end of the tax year. Any Class 1A NIC due must be paid by the 19th July (or 22nd July if you pay electronically).

HMRC may adjust your tax code for the following year to reflect these benefits.

Directors’ salaries vs. regular employees

Company directors are classed as employees for PAYE purposes.

The main difference is that directors can choose to have their NIC calculated on an annual basis rather than monthly, which can be more tax-efficient for contractors taking a low salary.

Your accountant can advise on which method is best.

Payroll and accounting software

Modern accounting platforms allow you to run payroll and handle compliance in one place. Software such as FreeAgent and Xero can:

• Submit RTI reports directly to HMRC.
• Generate payslips, P60s, and P45s automatically.
• Post payroll journals straight into your accounts.
• Keep digital records for audit and compliance purposes.

Using integrated software can reduce errors, save time, and ensure you never miss a deadline.

Self Assessment

PAYE only covers tax on salary. If you have additional income – such as dividends from your company – you must declare it via the Self Assessment system.

Limited company directors must file an annual tax return. Umbrella employees also need to do this if they have untaxed income. Dividend tax must be calculated and paid as part of the return.

The Self Assessment deadline is 31 January following the end of the tax year – for example, 31 January 2026 for the year ending 5 April 2025.

See our guide to Self Assessment for more.

Further information

You can read the complete HMRC guidance on PAYE and payroll, including registering as an employer and using payroll software.