Net vs. Gross Pay Agreements

Net & Gross Pay Agreements

Historically, dating from the days when most nannies were classed as domestic servants within large households, nannies have been paid a net wage with the employer paying all income tax, employee’s and employer’s National Insurance contributions on top of the agreed wage. This practice has remained the norm in England (although not in Scotland, where normally a gross wage is agreed) and is often reinforced by what the nanny hears from her peers during her training.

However, as of April 2013 HM Revenue and Customs have made a fundamental change to the PAYE system to cope with the restructuring of the benefits system associated with the introduction of “Universal Credit”. This is the biggest change to PAYE in the 60 years the system has been in operation. There are a great number of changes to the way in which PAYE now operates, but some of the most significant changes for employers to note are:

  • Every single payment made to an employee must be reported to HMRC via an online process BEFORE the payment reaches the employee.
  • The P45 and P46 process has been restructured to fit in with online reporting and HMRC will inform the employer of the tax code to use once the employee has started work rather than this being allocated via a P45. We will have little or no control over the code that HMRC allocate.
  • Processing weekly pay will incur a substantial extra overhead.

How this will affect nanny employers and nanny payroll companies

As a result of these changes, we believe it is no longer possible for employers to effectively operate net pay agreements for employees. As we will not be able to exercise the same degree of control over tax codes and as all employee pay must be reported accurately to HMRC before it is given to the employee, your agreement with the employee will need to be in gross terms to avoid potentially serious anomalies occurring in individual cases which might then result in HMRC penalties.

The requirement to change to gross pay will come as a considerable shock to many domestic employees and many employers may have difficulty in explaining the ramifications to them. However, PAYE for Nannies believes that there is no alternative but to make this move as soon as possible and strongly urges all new employers to negotiate pay only in gross terms. We can always provide employers with an indication of the amount of net pay which an employee will receive from a particular amount of gross pay (or vice versa) but must stress that this depends on the employee having a clearly defined tax code and that pay amounts never vary during the tax year. Please note – it is very important that you tell your employee that any figures are only an indication and that you cannot GUARANTEE a particular amount of net pay will always result from a fixed amount of gross pay.

To summarise:

  • Only negotiate pay in gross terms
  • Do not promise that a particular amount of net pay will always be paid for each pay period.
  • NEVER put net pay (or both net and gross pay) in a contract. All contracts should state pay in exclusively gross terms.
  • Do everything possible to encourage an employee to accept monthly pay from the start. If this is not possible, try to transition pay over a period of a few months from weekly to monthly as the charges from all payroll companies are likely to increase substantially for weekly paid employees.

Employers should NOT under any circumstances confirm they will pay a net figure to the nanny and then say something to the effect “but we will put the gross equivalent in the contract”. If a gross figure is put in the contract then both the employer and the nanny need to realise that any net figure previously mentioned relied on estimates based on average pay and a “normal” tax allowance and tax history at the point the calculation was made.Subsequent calculations of net pay at a later date based on a gross figure defined in the contract will frequently result in a net figure which is very significantly different from the net figure discussed initially (sometimes by more than a hundred pounds). This happens most often in the first or final months of employment but will also happen if the nanny has been off sick, had unpaid leave or worked overtime. Sometimes the net figure will be more than the nanny or employer is expecting but often it will be less.

If an employer decides to put a gross figure in the contract following initial discussions which have been in net terms they MUST fully explain the differences to the nanny and warn her that future net pay may vary. All future discussions must then be in gross terms and net pay rates should not be mentioned again by either party.

In cases where the employee has an existing job, the employer should consider carefully the financial consequences of contracting to pay a gross amount based on an agreed net figure that has been grossed up using a shared (reduced) tax allowance. In such cases the employer would be locking themselves in to a higher gross figure which would still need to be paid even if the employee left the other job and the other part of the tax allowance was transferred back to the remaining employer’s PAYE scheme.