Understanding the tax implications of employee Christmas gifts

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Maintaining staff morale is an important part of managing a productive workforce and showing your appreciation by way of gifts and other benefits is undoubtedly good for staff morale and some tax-efficient gifts will help keep the costs down.

Tax-Free Gifts

You can make a gift to your employees that will not count towards taxable income or be subject to National Insurance Contributions (NICs) if it meets ALL of the following criteria:

  • The gift is not contractual;
  • It does not exceed the value of £50;
  • It is not linked to performance or duties performed; and,
  • It is not cash or a voucher that can be exchanged for cash.

Many High Street store gift vouchers will qualify for the exemption where they are not exchangeable for cash, for example, the Love2Shop Vouchers.

If the gift does not meet all of the above criteria, it must be reported as a Benefit in Kind to HM Revenue & Customs (HMRC) and will be subject to tax and NIC.

Where the gift exceeds £50, the full amount (not just the excess) will be subject to both Income Tax and NIC.

There is no limit on the number of trivial benefits that you can provide in a year, as long as the benefits do not exceed £50 each time. However, where you are a ‘close’ company and the benefit is provided to an individual who is a director, the exemption is capped at a total cost of £300 for the tax year.

Annual Function Pitfalls

Generally, the usual annual function exemption will only apply if all employees (or all employees in one office or team location) are invited and the VAT-inclusive cost per head is less than £150.

PAYE Settlement Agreement (PSA)

Commonly, PSAs are used to settle tax on staff-wide benefits where the employer has treated the staff, such as entertainment or gifts for good service.  The advantage to employers is that they do not then need to include expenses and benefits included within the PSA on a form P11D. Similarly, employees don't pay tax on them or have to declare them on their tax returns.

The only benefits that can be included in a PSA are the following:

  • minor
  • irregular, and
  • impracticable for the application of PAYE

The HMRC guidance on what can be included in a PSA is deliberately vague to promote flexibility and therefore only stipulate benefits that cannot be included in a PSA which are:

  • cash payments of wages
  • other cash payments such as long service awards
  • large benefits provided regularly to individual employees such as company cars, car fuel, or beneficial loans
  • round sum allowances
  • shares
  • items from which tax has already been deducted under PAYE
  • items that are already reflected in the employee’s tax code for that year
  • profits arising from various mileage payment schemes and other regular items arising in employee car

Notwithstanding these clear benefits, PSAs are an expensive alternative, as the employer must ‘gross up’ the PSA item for income tax and NIC. The effective combined income tax and NIC rates for the employer are as follows:

  • 20% taxpayer – 42%
  • 40% taxpayer – 90%
  • 45% taxpayer – 107%

For example, the total cost of making a £100 gift under a PSA to a 40% taxpayer is around £190.

The PSA must be arranged before a PAYE and Class 1 NIC liability arises because that liability is fixed and cannot be changed by a PSA being agreed retrospectively. 

The calculation of the tax and NIC payable under the PSA should be provided to HMRC by the date in the PSA, which is often 31 July or 31 August following the end of the tax year. 

Please get in touch with the Pierce tax department for more information on how to set up a PSA.

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