Employee National Insurance

Employees pay Class 1 National Insurance contributions. Minimising employees’ Class 1 NI contributions directly benefits the employee. It also benefits the employer, by making it easier to recruit and retain employees.

Class 1 National Insurance for employees

As an employee, you are liable for ‘primary’ Class 1 National Insurance contributions. Your employer pays ‘secondary’ Class 1 National Insurance contributions. Both types of Class 1 NI are collected through the PAYE system operated by the employer.

Employees’ Class 1 NI contributions are charged at 12 per cent on earnings between the primary threshold and the upper earnings limit (£146–£817 per week, 2012-13) and at two per cent on earnings above that.

If you are a member of your employer’s salary-related occupational pension schemes, you get a Class 1 NI contributions rebate of 1.4 per cent on earnings between the lower earnings limit and the upper accrual point (£107–£770 per week). The rebate for contracted-out employees in money purchase occupational pension schemes has been abolished.

Class 1 NI: special cases

Directors pay Class 1 NI contributions on their employment earnings at the same rates as other employees. But rather than using weekly or monthly earnings, Class 1 NI contributions are based on annual earnings. This means that directors who have fluctuating earnings will pay the same amount of Class 1 NI contributions as they would if their earnings were spread evenly through the year.

If you have more than one job, you can end up paying more Class 1 NI than is due, as the 12 per cent rate could be charged on too large an amount of your total earnings from all your jobs. You can apply to have some Class 1 NI deferred if this is likely to apply or reclaim the excess after the tax year end.

If you are both employed and self-employed, then it is possible to end up paying more in employee’s Class 1 and self-employed Class 2 NI contributions than the total annual limit payable. Again, some contributions can be deferred or reclaimed.

Class 1 NI contributions are payable on almost all cash payments an employee receives. Cash tips received directly from a customer, or where the employer has no influence over how tips are shared out, are exempt from NI (but are still taxable). Compulsory service charges are not exempt.

Minimising Class 1 National Insurance

Employees’ Class 1 NI contributions are payable on any cash payments, including bonuses and other incentive payments. But Class 1 NI is not generally payable on benefits unless they are either cash or cash-like (for example, vouchers that can be exchanged for cash). So employee benefits such as childcare vouchers can be a useful way of reducing Class 1 NI contributions payable (and in some cases tax as well).

The most significant benefit can be employers’ pension contributions. If an employer contributes directly to the employee’s pension scheme, no Class 1 NI contributions are payable by either employer or employee. A properly arranged salary sacrifice scheme — where employees accept a lower salary but receive higher pension contributions — offers significant Class 1 NI savings.

If you own your own company, you may be able to make substantial Class 1 NI savings by taking dividends rather than salary. Dividends can only be paid out of distributable profits (so not if the company has accumulated losses) following proper procedures, and cannot be paid selectively only to chosen shareholders.

The ‘IR35’ rules on personal services companies, and more recent rules on managed services companies, have made it difficult to take advantage of this if you are providing personal services through a company (for example, as an IT contractor). In these cases, the rules broadly ensure that the tax and NI treatment of any payment — including dividends — is the same as for employment income.