Posted on: 02-09-2021
MONTHLY FOCUS: PROVIDING TAX-FREE BENEFITS TO EMPLOYEES (PART 1)
Tax-Free Benefits – 31.08.2021
Providing benefits that are exempt from income tax is a great way to reward employees in a tax-efficient way. Which benefits qualify for tax-free treatment?
Making tax-free benefits available to employees
Can an employer provide employees with tax and NI-free benefits?
Although most benefits and expenses provided to employees and directors are taxable and liable to NI, there are exceptions and exemptions. However, as you would expect, they usually come with conditions.
The option of being able to receive a tax-free benefit is something that most employees would find attractive. From the employer’s perspective, the idea is cost-effective because NI contributions are not payable on benefits that aren’t taxable.
What type of benefits can be provided tax and NI free?
Tax and NI exemptions cover a wide range of employer-provided benefits including:
- accommodation, supplies and services used in employment
- annual parties and functions
- bus services for travel to and from work
- cars for disabled employees
- car sharing arrangements
- car and van charging facilities and electricity
- childcare – employer-subsidised (for existing scheme members only)
- childcare – workplace nurseries
- childcare vouchers (for existing scheme members only)
- contributions to a registered pension scheme
- counselling and outplacement services
- council tax, repairs and living expenses in connection with employer-provided accommodation
- cycles and cycling safety equipment
- disabled employees – home-to-work transport
- emergency vehicles – commuting while on call
- entertaining employees of another business etc.
- expenses incidental to an employment-related asset transfer
- eye tests and corrective appliances associated with use of digital display equipment
- gifts to employees of another business etc.
- health and employment insurance payments
- health screening and medical check-ups
- heavy goods vehicles – modest private use
- homeworker’s additional household expenses
- incidental overnight expenses
- long service awards
- minor benefits specified by HMRC
- mobile telephones
- mileage allowance payments relating to business travel
- overseas medical treatment
- pensions advice
- recreational and sporting facilities
- redundancy payments
- relocation costs
- suggestion awards
- transport home following late working
- travel and subsistence during public strikes
- trivial benefits
- working rule agreement payments
- workplace parking
- workplace meals
- work-related training/courses
- works transport services.
Where a benefit is tax and NI exempt, if it’s paid for by a voucher or credit token, e.g. gift token or a credit card, the costs associated with providing the voucher etc. are also exempt.
Will providing additional benefits increase the wage bill?
It doesn’t have to; if an employee swaps taxable cash salary for the types of tax-free benefit, mentioned below the employee will save the tax and NI associated with the salary. The employer will save on secondary NI (employers’) contributions. This type of arrangement is generally known as a salary sacrifice scheme. HMRC refers to these and similar schemes as optional remuneration arrangements (OpRAs).
Since 6 April 2017 the tax and NI-free status of most benefits in kind is lost where they are provided through a salary sacrifice arrangement. However, the following benefits are not affected by this change and so a salary sacrifice arrangement set up on or after 6 April 2017 will still be tax efficient:
- pension contributions
- pensions advice (up to £500 per annum)
- free or subsidised workplace nursery
- employer paid-for childcare, e.g. vouchers schemes *
- cycles and equipment provided under the cycle-to-work scheme.
*For employees who joined a childcare voucher or third-party childcare scheme after 5 April 2011 the tax and NI-free amount is limited to £55, £28 and £24 respectively for basic, higher and additional rate taxpayers, according to the level of their earnings estimated for a tax year. Further, the exemption only applies to employees who were receiving benefits from a childcare scheme on 4 October 2018.
Because the employees will be better off due to the tax saving, the employer can factor this into salary negotiations with them, which could reduce the wages bill.
An employee pays tax at 40%. Under a salary sacrifice arrangement he receives salary of £1,456 a year for childcare vouchers to take advantage of the exemption of up to £28 a week (equivalent to £55 per week for a basic rate taxpayer).
As these are tax and NI free, the employee saves tax of £582 and NI at 2%, £29.12. And the employer saves NI of £200.93 (13.8% of £1,456). Therefore, everyone wins except HMRC!
How can employers ensure that a salary sacrifice arrangement is effective?
The employees must not be able to revert back to the higher salary at will. HMRC will generally accept that a salary sacrifice that applies for at least one full year, without the right to revert, is valid for tax purposes.
For HMRC to regard a salary sacrifice arrangement as effective, the following two conditions must also be met:
- the potential future remuneration must be given up before it’s treated as paid for tax or NI purposes (in other words it can’t apply to salary that has already be paid to an employee); and
- the amended contractual arrangement between the employer and the employee is that the employee is entitled to lower salary or wages and a benefit.
Following the ruling in the Reed (Employment Agency) case HMRC will not usually accept that a worker’s contract has been amended unless there is: (1) a new contract of employment issued following a salary sacrifice which includes reference to the arrangement; or (2) that the employee is provided with a letter or other notice from the employer explaining the consequences of the arrangement.
HMRC doesn’t regard a salary sacrifice arrangement as being effective if it enables the employee to continue to be entitled to the higher salary, and in effect all that has happened is that the employer has applied part of the remuneration on the employee’s behalf to securing the benefit. If HMRC doesn’t accept that the arrangement is effective, the employee remains liable to PAYE tax and NI contributions on the original amount of their salary (ignoring the reduction in cash salary paid) and so they will not be entitled to the tax or NI exemptions associated with the benefits given instead of salary.
HMRC will not comment in advance as to whether proposed salary sacrifice arrangements are effective. This means that care must be taken up-front to ensure that the proposed arrangements meet the conditions set out above.
What should employees be told about a salary sacrifice scheme?
Salary sacrifice schemes can affect other aspects of an employee’s financial situation, not just their tax bill. Employees on lower incomes can be particularly affected.
The nature of a salary sacrifice scheme is such that by giving up cash salary in exchange for an exempt benefit, the employee’s salary is reduced. This can have a number of knock-on effects:
- if the employee’s earnings fall below the lower earnings limit for NI purposes (£120 per week for 2021/22), this will adversely affect the employee’s contribution record and may affect their entitlement to the state pension and other state benefits
- to qualify for statutory sick pay, statutory maternity pay, statutory paternity pay and statutory adoption pay, the employee must have average weekly earnings at least equal to the lower earnings limit. If earnings fall below this the employee will lose entitlement to these benefits
- the level of an employees’ earnings can affect the amount of statutory pay they are entitled to
- where pension contributions are worked out as a percentage of salary, reducing an employee’s salary will lower their pension contributions, which may affect the pension to which they are ultimately entitled.
By contrast, reducing an employee’s salary may increase their entitlement to tax credits or Universal Credit.
Note. Employers should make sure that their employees are fully aware of the implications of signing up to a salary sacrifice arrangement to avoid disputes later.
Is the cost of providing tax-free benefits to employees deductible from profits?
Yes, providing benefits to or for employees and directors counts as part of salary package and is therefore a tax-deductible cost of the employer.
Benchmark subsistence rates
What are benchmark subsistence payments?
Since 6 April 2009 employers have been able to pay their employees HMRC-approved flat rate allowances to cover the cost of meals while travelling for business or working away from their normal place of work. The allowances are referred to by HMRC as benchmark subsistence. For business journeys where the employee is away from their normal place of work the tax and NI-free amounts that can be paid per day are:
- £5 where the time away from their place of work is five hours or more
- £10 where the duration is ten hours or more; or
- £25 where the duration is 15 hours or more and is ongoing at 8.00pm.
An additional payment of up to £10 is allowed where either the £5 or £10 allowance is paid and the journey hasn’t ended by 8.00pm.
What are the conditions for a payment to qualify as tax and NI exempt?
Benchmark scale rates can only be used where:
- travel is required as part of the employee’s duties or they are working at a temporary workplace
- the employee is absent from their normal place of work or home for a continuous period in excess of five hours
- the employee is expected to have to pay for a meal, that is food and drink, after starting the journey.
HMRC defines a meal as consisting of a combination of food and drink – not just one or the other.
What if more than the benchmark rate is paid?
If an employer wants to pay more than the tax-free rates, PAYE tax and NI (employees’ and employers’) must be paid on the excess unless they negotiate a higher figure with HMRC.
Although an employee must buy a meal to receive the tax and NI-free allowance, there’s no minimum spend and since 6 April 2019 employers aren’t required to check that employees have incurred the cost of a meal.
HMRC will consider applications by employers to pay amounts in excess of its benchmark rates where backed up by supporting evidence that they are insufficient.
How do employers negotiate a higher rate of tax and NI-free subsistence payments?
Before approaching HMRC to approve so-called tailored or bespoke rates for subsistence payments, the employer will need to gather evidence to calculate the amounts they want to pay. This involves carrying out a sampling test of subsistence claims made by the employees. While there are no statutory guidelines for this HMRC suggests that the employer selects 10% of the employees at random, record their subsistence expenses for a one-month period and send it the details.
If there are fewer than ten employees we suggest picking two for sampling, or 10% of claims from all employees chosen at random.
Employers can contact HMRC about bespoke subsistence rates by phone on 0300 200 3200 or in writing at:
PT Operations North East England
HM Revenue and Customs
What’s the position for subsistence payments made under a working rule agreement?
Payments to employees for subsistence which are made in line with an industry working rule agreement are treated by HMRC in the same way as an approved tailored subsistence payment and so are exempt from tax and NI.
What type of childcare is covered?
There are various ways in which employers can provide help with childcare costs in a tax-efficient way. These include:
- providing care by means of a workplace nursery
- providing or subsidising childcare through a third party, e.g. a private nursery
- giving employees vouchers which they can use against their childcare costs.
How does the exemption for workplace nurseries work?
Childcare can be provided in a workplace nursery without an associated tax charge arising. However, as with most exemptions, there are conditions that must be met.
The conditions are as follows:
- the child lives with the employee and is maintained, wholly or partly, at the employee’s expense
- the child is resident with the employee; and
- the employee has parental responsibility over the child.
For these purposes, a person has parental responsibility if they have the rights, duties, powers, responsibilities, and authority that by law a parent of a child has in relation to the child and the child’s property.
The premises on which the care is provided are not used wholly or mainly as a private dwelling and any applicable registration requirement is met.
The registration requirements are:
- in England under the Childcare Act 2006, Pt. 3
- in Wales, under the Children Act 1989, Pt. 10A
- in Scotland, the Regulation of Care (Scotland) Act 2001, Pt. 1 or 2; and
- in Northern Ireland, the Children (Northern Ireland) Order 1995, Pt. XI.
The premises on which the childcare is provided are made available only by the employer or in partnership with other businesses. In the latter case further conditions apply.
The partnership requirements are that:
- the care is provided under arrangements made by the employer or another employer who also has employees using the scheme
- the premises in which the care is provided are made available by one or more of those employers; and
- under the arrangements the scheme employer is wholly or partly responsible for financing and managing the provision of the care.
The childcare must be open to all employees working at the same location, e.g. one particular branch office or factory, or if the scheme is being run by another employer, generally to those employees at that particular location.
Employers can join forces and share costs to provide childcare by means of a workplace nursery.
There’s no financial limit to the tax exemption for a workplace nursery.
Can employers provide tax and NI-free childcare in a nursery or with a childminder instead?
Yes, provided that certain conditions are met. These are as follows:
- is a child or stepchild of the employee and is maintained, wholly or partly, at the employee’s expense; and
- lives with the employee and is a person in respect of whom the employee has parental responsibility.
The care is qualifying childcare where the carer is registered or approved as a childcarer.
The childcare is provided under a scheme that is open to the employer’s employees generally or to those at a particular location, e.g. a branch office.
Where the conditions are met, the care is tax free up to a limit of £55 per employee per week.
For the exemption to apply, the employer must have a contract direct with the childcare provider. If the contract is between the employee and the childcare provider and the employer either reimburses the employee or pays the provider on the employee’s behalf, the exemption does not apply and the employee is taxed on the benefit.
Can employers use vouchers to help with employees’ childcare costs?
Yes, subject to the ending of the exemption (see below) childcare vouchers can be given as a benefit in kind and can be linked with a salary sacrifice arrangement. Vouchers can be provided tax free up to £55 per week. Any administrative costs incurred in providing the vouchers are ignored for tax and NI purposes.
How does the £55 per week limit work?
The £55 cap on employer-supported childcare applies to employees who joined a childcare voucher scheme, or who first received a subsidised childminder or nursery services from their employer, on or after 6 April 2011. The effect is to limit tax relief to £11 per week. This is achieved by capping the tax-free amount to £55, £28 and £24 respectively for basic, higher and additional rate taxpayers according to the level of their earnings as estimated for a tax year. For example, if an employee was expected to pay basic rate tax only on their pay for 2020/21, but as a result of an unexpected promotion becomes a higher rate taxpayer part way through the year, they remain entitled to £55 per week tax and NI-free childcare vouchers for the whole of 2020/21.
Those who joined before 6 April 2011 are exempt from tax and NI on childcare vouchers or subsidies of up to £55 per week.
The £55 limit is a total limit for both vouchers and employer-supported care. Where the limit is exceeded, the excess is taxable and subject to employers’ and employees’ NI.
When did the tax and NI exemption for employer-supported childcare end?
Employer-supported childcare schemes can no longer admit new members but they can continue to provide childcare vouchers or subsidies to existing members. Employees’ rights to the limited tax and NI exemption ended in 2018/19 for childcare voucher or subsidy schemes unless they were part of the scheme on 4 October 2018.
Is the new Tax-free Childcare (TFC) scheme more tax efficient for employees?
TFC entitles parents to a government payment of up to £2,000 per year, per child (up to a maximum of £10,000 per year). In practice, most parents are entitled to less because the government payment is only given at the rate of 20p for every 80p parents spend on approved childcare. A parent is not entitled to TFC if they or their spouse are part of their employer’s childcare scheme. Those parents should compare financial advantages of each scheme. Unlike employer-supported childcare, TFC offers no savings for employers.
Parents should work out their entitlements under both schemes and keep this under review to see when they should opt out of their employer’s scheme in favour of TFC. Conversely, employers should do what they can to encourage employees to take advantage of their childcare scheme.
Christmas parties and annual functions
What are the tax-free limits on parties?
No tax charge will arise for an employee where an employer pays for the cost of a Christmas, or other annual event, e.g. a summer ball, as long as the cost per head stays within the limit set by HMRC and other conditions are met.
The exemption applies to annual events if all employees or all those at a particular location, e.g. a branch office, are invited. The exemption only applies if the cost of the function(s) is not more than £150 per head, including VAT.
The exemption is £150 per head not £150 per employee. This means that it can apply to an employee and their guest, e.g. their spouse (even if are not an employee), so that as long as the cost to the employer is no more £150 each on average there is no taxable benefit.
The exemption can cover the cost of small gifts given as part of the function to those employees and guests who attend.
If the cost per head for those attending the function exceeds £150, the whole cost is taxable not just the excess over £150. Where an employee brings a guest, and the cost per head limit of £150 is exceeded the amount on which the employee is taxable includes the cost of the guest’s attendance as well as their own.
How is the cost per head figure calculated?
The cost per head is found by dividing the total cost of the function by the number of attendees.
When working out the total cost of the function, employers need to take into account the costs of:
- the party or function
- any transport or accommodation incidentally provided by persons attending it (irrespective of whether they are employees of the employer); and
- VAT, which is also included even where the employer will reclaim it.
A company provides a Christmas party for staff and guests. It also provides overnight accommodation at the hotel where the party is held. The party costs £20,000 inclusive of VAT and the accommodation costs £5,000. The party is attended by 210 employees and 190 guests.
The total cost of the function is £25,000. The cost per head is £62.50 (£20,000 divided by 400 people).
The cost per head figure is less than £150. Therefore, no taxable benefit arises in respect of the provision of the party.
What’s the position if there is more than one function in a year?
Employers can have more than one function for staff tax and NI free each year, as long as the total cost per head figure doesn’t exceed £150.
If the total cost per head figure is more than £150, the exemption can be used to cover those whole functions where the combined cost is £150 or less. Functions not covered by the exemption are taxed as a benefit in kind. The employee is taxed on the cost to the employer of their (and any guest of theirs) attendance at the party, less any amount made good by the employee.
Where there is more than one function in the tax year, the exemption should be allocated to those which achieve the best overall result. When choosing how to apply the exemption, employers consider the impact of employee guests on any resulting tax liability.
A company holds three events in a tax year – a Christmas party costing £100 per head, a summer ball costing £120 per head and a quiz evening costing £30 per head.
The exemption can be put to best use by covering the quiz evening and the Christmas party, giving a total exempt amount of £130 per head. The remaining £20 of the exemption is unused as it can’t be partially offset against the summer ball.
However, if it’s assumed that the Christmas party and the quiz were both for employees only, it would better to use the exemption against the ball (leaving £130 taxable on P11D employees and directors). If the ball is taxed, the cost of the employees’ guests needs to be taken into account and although the cost per head of the ball is lower than the combined cost of the other two, the effect of the guests would mean that the taxable benefit would be £240.
If the cost per head figure exceeds £150, employers could consider settling their employees’ tax liabilities through a PAYE settlement agreement. This will prevent the awkward situation of the employees receiving a tax bill for a goodwill function provided by their employer.
Alternatively, an employer could seek a contribution from employees to reduce the cost per head to below £150 and so bring the function within the scope of the exemption.
What’s the position for online functions?
So-called virtual parties involving online events such as quiz nights or concerts where employees take part from a remote location, e.g. their homes, are covered by the exemption.
Cycle to work schemes
What is the cycle-to-work scheme?
As part of the government’s green transport policy, employers can take advantage of the tax exemption for employer-loaned bicycles and cycling safety equipment. They can either create their own scheme or use one of the commercially run ones that are available.
What’s covered by the tax exemption?
The exemption applies to a bicycle and associated safety equipment, such as a helmet, as long as ownership of the equipment is not transferred to the employee, the bike is used mainly for home-to-work travel or travel between two workplaces and the scheme is offered to all employees.
Does the exemption apply to e-bikes?
Yes, electrically assisted bicycles are covered by the scheme.
Do employers need to monitor employees’ private use of the bike?
HMRC doesn’t expect employers to keep detailed records of the time employees spend travelling or the miles cycled. HMRC accepts that the “mainly for work” use applies unless there is clear evidence indicating that less than half the cycling time is for non-work-related use. In practice, HMRC is unlikely to ask for information about a scheme unless it has good reason to suspect that the exemption is being abused.
How do marketed cycle-to-work schemes work?
A typical scheme operates on the following lines:
- the employee enters into a salary sacrifice arrangement with the employer – typically for twelve months
- the employer enters into a contract with the scheme provider
- the employee enters into a hire agreement for the loan of the bike with the scheme provider and is given a voucher for a bike package which is redeemed with that provider
- the employer meets the full retail cost of the bike (and therefore it’s the employer who owns the bike)
- at the end of the period, the employee can either hand the bike back to the employer, extend the scheme or buy it from the employer.
How much tax and NI can be saved?
As the employee is swapping taxable salary for a tax-free benefit under the salary sacrifice arrangement, they save tax at their highest rate (20%, 40% or 45%) and employees’ NI on the salary foregone. The employer also saves the full cost of employers’ NI.
Acom Ltd has 24 employees, four directors and 20 staff. In 2020/21 it offers the use of company paid-for bicycles to all its employees for the main purpose of travelling to and from work. Six of the employees take up the scheme. John, one of the directors, for instance chose a bike costing £450, a cycle helmet – £80, and accessories – £90; a total cost to Acom of £620.
As John’s annual salary is £95,000 he pays tax at 40%. He sacrifices £500 of his salary for use of the bike. John saves tax at 40% of this, i.e. £200, and NI at 2%, i.e. £10. Acom saves employers’ NI at 13.8%: £69.
After four years John wants to buy the bicycle, helmet and accessories which are then worth £80. As long as John pays Acom no less than this for them he won’t have a tax or NI bill.
Can we deduct the cost of the bikes in calculating our profits?
The purchase of the bikes is capital expenditure and so is not deductible as an expense. Instead, capital allowances can be claimed. The effect is that the cost might be deductible fully for the financial year in which the expenditure of the cycle(s) occurred, or it might have to be spread by claiming a percentage of the cost each year. The full deduction can be claimed where the cost of the cycles is included with the annual investment allowance (AIA). The AIA allows businesses to deduct up to £200,000 (£1 million until 31 December 2021) of capital expenditure for the financial year in which it is incurred.
What happens if the employee wants to buy the bike at the end of the agreement?
This is fine and there will be no tax charge as long as the employee pays the market value at that time. However, if they pay less than the market value, they will be taxed on the difference.
After say, a year, the employer can sell or give the bike to an employee. And while in the latter case this will count as a BiK, the amount chargeable to tax is quite small. HMRC even provides some guideline values.
|Age of bicycle||Acceptable disposal value percentage||Acceptable disposal value percentage|
|Original price of the bicycle less than £500||Original price £500+|
|Six years and over||Neglibible||Negligible|
According to HMRC, a bike which cost less than £500 when new can be given to an employee after one year and this would trigger a BiK equal to just 18% of its original price, i.e. £90. This means an employee who pays tax at the basic rate (20%) would have to pay £18, and the company £12 in Class 1A NI. And don’t forget, once a bike is in the ownership of the employee there are no conditions on how it has to be used.
Eye tests and spectacles
Are eye tests tax free?
No tax charge arises in respect of eye tests that employers are required to provide under the Health and Safety at Work etc. Act 1974. Usually, this will be where employees have to use display screen equipment (DSE) for computers etc. Where, an eye test shows that an employee is found to need corrective appliances, e.g. glasses, specifically for using DSE, no tax or NI bill arises if the employer provides these.
Are there any conditions that must be met?
The eye tests must be required under the health and safety legislation and the tests and appliances must either be made available to employees generally or to those for whom the employer is required to provide eye tests.
While having their eyes tested for work-related purposes your employees can tack on additional tests, e.g. for contact lenses; if there’s no additional cost, this will be tax free. Even if there is it’s likely to be less than a stand-alone appointment, and as long as they reimburse the employer for any additional costs, there will be no tax or NI to pay.