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HMRC internal manual

PAYE Manual

PAYE operation: aspects of PAYE operation - employer: payment of arrears of pay for closed tax years

Arrears of pay are earnings paid after the date that an employee should have received them and are usually paid as a lump sum. Arrears of pay are earnings just as if they had been paid at the right time. You can find more information on arrears of pay at EIM02530.

Arrears of pay may arise because

  • An employer or employee discovers that wages or salary paid in an earlier period were less than what should have been paid under the employee’s contract
  • The employer’s payroll or HR systems make an error
  • Equal pay legislation applies and the employer has to pay the arrears to the employee(s) or a court has ordered this

Legally, an employee’s tax liability on a payment of arrears arises in the tax year that the employee was originally entitled to be paid the extra amounts, not in the year that payments are eventually made. However, if arrears are paid in one lump sum in the current tax year then PAYE is due at the time of payment.

From 6 April 2016 Scottish income tax will apply where an individual is resident in the United Kingdom (UK) for tax purposes and who has their sole or main place of residence in Scotland. Scottish income tax is the amount of income tax Scottish taxpayers will pay on their non-savings and non-dividend income. Where Scottish income tax rate applies the tax code will include an S prefix (except for code NT), for example, S1100L, SD0.

Where an individual is identified as a Scottish Taxpayer, it is crucial that the Scottish tax rates are used in calculating the income tax. The Scottish tax rate(s) is applicable from the 2016-17 income tax year and should not be used for cases prior to 6 April 2016.

Further information is given at PAYE100035

To assist employers in calculating the tax due on the arrears of pay and ensure that it is paid over to HMRC, two settlement arrangements have been agreed.

The remainder of this subject is presented as follows

Large employers and payment of arrears
Paying the tax that is due
National Insurance
Employer deducts tax in the current tax year
Self Assessment customers

Large employers and payment of arrears

Some large employers such as

  • Local Authorities paying arrears for a number of closed tax years under equal pay legislation


  • The NHS paying arrears under the ‘Agenda for Change’ pay agreement

would have to amend the pay and tax details for a large number of employees. Amending returns and working out each employee’s tax in these circumstances can be an administrative burden.

HMRC have agreed that these large employers can either

  • Contact their Employer Compliance office and agree a special arrangement to settle the PAYE arrears


  • Follow the PAYE settlement procedure below

Special arrangements are allowed under Regulation 141 of the PAYE Regulations to ease matters for employers, employees and HMRC.(This content has been withheld because of exemptions in the Freedom of Information Act 2000)

(This content has been withheld because of exemptions in the Freedom of Information Act 2000) (This content has been withheld because of exemptions in the Freedom of Information Act 2000)

If any large employer does not want to agree to a special arrangement they should deal with the matter as follows.


The employer should calculate the tax due for all closed tax years and deduct tax under PAYE.

The employer does not have to complete the amended forms P11, P14 and P35 but is required to

  • Allocate the arrears of pay to the tax year in which payment should have been made
  • Calculate and deduct tax for each closed tax year as if the additional pay had been paid at week 53
  • Use the tax code that applied in the tax year that the arrears should have been paid

If the employer asks for advice about how week 53 operates, the guidance at PAYE70015 tells you how to do this. You should also confirm any tax codes that applied in closed years if the employer no longer has a record of them.

The employer should then send HMRC a list of each employee’s

  • Name
  • National Insurance number
  • Pay and tax for each year

Each employee must be given a letter showing the gross arrears of pay for each year and the tax deducted. The letter should also contain the following message

‘Your tax has been calculated using the tax code that applied for that year. If you think that you have overpaid tax for any of the years concerned you should contact your HM Revenue and Customs office.’

To deal with a claim for repayment follow Action guide tax40121

Paying the tax that is due

To pay the additional tax that is due the employer should

  • Contact their Employer Compliance Office (ECO)


  • Ask to pay the tax due in an Employer Amendment Class 6 Settlement

If the employer contacts you to confirm their local ECO you should

  • Confirm the location and contact details of the ECO


  • Direct the employer to the Employer Helpline on 0300 200 3200

The due date of the tax is thirty days from the date of payment of the arrears of pay and interest is chargeable on late paid tax from this date.

National Insurance

Arrears of pay are dealt with differently for National Insurance (NIC) purposes.

The employer should enter the full amount of the arrears paid on the current year P11 or equivalent payroll record at the time of payment and work out the NIC due in the normal way.

Employer deducts tax in the current tax year

Some employers will not contact you to agree a settlement because they have paid the arrears as one lump sum in the current tax year and deducted PAYE. This may give rise to higher rate liability on employees who are basic rate taxpayers.

If an employee contacts you before the end of the tax year claiming to have paid too much tax on the arrears and asking that the arrears are taxed on the correct basis you should

  • Set the Inhibit Automatic Reconciliation signal so that the liability can be reviewed at the end of the year
  • Make a Contact History note ‘Inhibit Automatic Reconciliation signal set arrears of pay case’
  • The estimated pay used in coding calculations will be incorrect due to the lump sum payment on the FPS. This estpay cannot be overwritten and may result in tax codes that will cause hardship for the customer in year. If this is the case, set the Manual code indicator & issue manual codes through SEES.

Tell the customer that the matter cannot be reviewed until the end of the year but their record has been flagged for an automatic review at the earliest opportunity.

Ask the customer to

  • Send you their P60 for the relevant year as soon as they receive it
  • Confirm the total payment and the amounts applicable to each tax year it covers
  • Provide copies of any documents the employer has given them in respect of the payment

You should then follow Action guide tax40121.

Self Assessment customers

If the customer asks that the arrears are assessed in the relevant year, you should take similar action to that for pension cases as outlined in SAM121161.