Historical payroll errors are often uncovered when preparing employment related securities (ERS) annual returns. This article sets out practical steps for tax and payroll teams to correct such issues and reduce the likelihood of recurrence. In-house employment tax and payroll teams may also wish to share the accompanying article on employee share plan corporation tax compliance with their corporate tax colleagues.
Share plans can be complex – and errors can arise
Operating an employee share plan involves multiple stakeholders and complex compliance requirements. This is particularly the case where Internationally Mobile Employees (IMEs) participate, as awards may be subject to income tax and social security in more than one jurisdiction with rules that do not always align.
Payroll withholding errors commonly arise where:
- Overseas parent companies fail to notify their UK subsidiaries of share awards held by UK-based employees (including IMEs);
- Employers do not identify UK income tax charges related to employment-related shares (e.g. when restrictions, such as transfer limitations, lift);
- Employers do not appreciate that share awards are valued differently for UK tax purposes compared to the grantor's home jurisdiction, leading to overlooked UK tax implications (for example with US profit interest style awards); and
- Employees receive shares after they have ceased employment and the taxable gains are not processed through UK payroll.
Issues with income tax and social security payroll withholding are often identified only when preparing the annual ERS return. By that stage, correction is only possible once the ERS return has been filed.
What employers should consider now
Where payroll withholding errors are identified during year-end ERS reporting, prompt action is essential.
Employers should voluntarily disclose any errors identified when completing the annual ERS returns and settle amounts due to HMRC promptly, to minimise late-payment interest. An 'unprompted' disclosure before HMRC identify the issue, together with full cooperation, can potentially reduce to nil any penalties that HMRC might otherwise impose.
Where errors are identified, it is important to demonstrate to HMRC that appropriate measures have been implemented to prevent recurrence, typically through a comprehensive written disclosure to HMRC.
Employers who identify errors associated with share plans may wish to consider the following points when preparing a disclosure to HMRC and settling the position.
Assessing the amount due to HMRC
Prior to making a disclosure to HMRC, it is important to identify and quantify all employment tax withholding and reporting errors and not just those linked to employee share plans. HMRC may perceive errors in one area as indicative of wider payroll and tax reporting weaknesses. HMRC can assess underpayments for errors in the last four tax years (or up to six where HMRC can successfully argue that the errors resulted from failing to take reasonable care).
Recovering PAYE and NIC from employees
Employers are required to settle any outstanding payroll withholding obligations with HMRC. Depending on the terms of the share plan documentation, it may be possible to recover the relevant PAYE and employee's NIC (and employer's NIC where this has been validly transferred) from employees. Employers should review their share plan documentation to confirm whether appropriate recovery rights are in place.
Understanding the source of the error
Employers should understand the root causes of any errors identified and take steps to ensure that their systems and processes are enhanced to address the underlying issues. Being able to demonstrate to HMRC that appropriate steps have been implemented to prevent errors from recurring is particularly important for employers within the Senior Accounting Officer reporting regime.
Monitoring and testing new payroll processes
A well-managed payroll is critical to meeting employment tax compliance obligations. Once historical errors have been corrected, periodic in-year PAYE checks can help confirm that new processes and controls are operating effectively and enable timely remediation where needed. This may include working with in-house Reward teams and external share plan administrators to cross-check and reconcile tax withholdings made during the tax year.
How KPMG can help
We have extensive experience assisting companies to resolve PAYE and social security issues arising from employee share plans. Please contact the authors or your usual KPMG in the UK contact to discuss how we can support your employee share plan arrangements.
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