How to select the National Insurance contribution basis in a limited company director’s payroll profile

This article explains how to select the National Insurance contribution basis when creating a payroll profile for a limited company director.

Please note that FreeAgent's payroll functionality won't be available if you have an unincorporated landlord or non-UK account type, or if you're preparing your accounts using cash basis accounting.

When setting up payroll in FreeAgent, you will need to create a payroll profile for each employee that will be included on the payroll. This includes choosing a National Insurance contribution basis for limited company directors and entering a directorship starting date (where applicable).

Please note that if the employee is not a director of the company, the information below does not apply. You will need full (level 8) access to FreeAgent in order to create a payroll profile.

National Insurance contribution basis

When you’re creating a payroll profile for an individual, the ‘Employment Details’ section contains information about their National Insurance contribution basis. If the employee is a director of the company you can choose whether to use the ‘Director’ basis or ‘Director (alternative arrangements)’ basis.

Regardless of which basis you choose, National Insurance contributions are calculated on earnings above the primary threshold for the employee contributions, and the secondary threshold for the employer contributions.

Director method

Directors have the option to pay their National Insurance cumulatively, so that they pay less at the start of the tax year and more at the end. This means that employee NI will start to be deducted from their salary when their cumulative NICable salary for the tax year to date goes over the primary threshold, and employer NI deducted once their cumulative NICable salary for the tax year to date goes over the secondary threshold. Both of these are calculated on an annual basis.

To select this option for the individual, select the 'Director' option.

Director (alternative arrangements) method

Alternatively, directors can choose to pay their National Insurance monthly, like an employee. This means that each time the director is paid, both the employee and employer NI contributions are calculated based on their monthly pay.

To select this option for the individual, select the 'Director (alternative arrangements)' option.

Whichever method you select, both employee and employer National Insurance contributions will automatically be re-calculated in month 12 on the annual basis (‘Director’ method) for the Director.

Changing National Insurance contribution basis during the tax year

You can change the National Insurance contribution basis from the ‘Director (alternative arrangements)’ method to the ‘Director’ basis during the tax year by updating the individual’s payroll profile.

However, HMRC does not allow the National Insurance contribution basis to be changed during the tax year from:

• ‘Director’ to ‘Director (alternative arrangements)’
• ‘Director’ to ‘Employee’
• ‘Director (alternative arrangements)’ to ‘Employee’

Instead, you should only make these changes when creating the payroll profile, or when transferring the profile over to the next tax year.

If you try to make such a change on a payslip or payroll profile during the tax year, after at least one payslip for that profile is filed within the tax year, you’ll see the following error:

If you want to make a transition of this nature, you’ll have to contact our support team via support@freeagent.com.

Other transitions, such as from ‘Employee’ to ‘Director’ during the tax year are allowed by HMRC and you will be able to make these changes in FreeAgent.

If the individual leaves the directorship during the tax year but remains an employee of the company, HMRC’s guidance is to continue to calculate the National Insurance contributions using the ‘Director’ or ‘Director (alternative arrangements)’ method until the end of the tax year. Therefore these changes won't apply until the tax year ends. When transferring the profile over to the next tax year, you can select the ‘Employee’ basis.

Directorship Starting Date

If the individual became a director of the company during the current tax year, enter the ‘Directorship Starting Date’. When a director starts part-way through the tax year, the threshold for how much salary they can receive before they start paying National Insurance contributions is calculated pro rata on a weekly basis. For more information, please refer to HMRC’s guidance.

If, at any stage, the employee becomes a director of the company, consider the following when you update this information in their payroll profile:

• If the employee is due to be paid again before their directorship start date, don't update the 'NICs calculated as' options until the following month - but make sure you do so before you run that month's payroll.
  
  
• If the employee is not due to be paid again until after their directorship start date, you should update the 'NICs calculated as' options straight away - make sure you do so before you run the current month's payroll.