Payslips & Payslip Deductions Explained

Struggling to understand your payslip and deductions? Or are you an employer running your own payroll wanting to be able to explain payslips and the payslip deductions that appear to help your team members?

In this guide, I’ll run through the basics of payslips including what they are, how to read the different payslip deductions that appear as well as the information that legally needs to appear on them. Rest assured, you’ll have confidence when it comes to checking your payslips by the end of this guide and you’ll know whether you’re paying the right amount of tax.

As always, there’s no jargon, I promise! But there is quite a lot of information, so you may want to bookmark this page so you can come back to it in case you have a question in the future.

1. What is a Payslip (Definition)

A payslip is a legal document, either issued digitally or on paper, detailing how much an employee has been paid as well as any deductions made from their pay. The purpose of a payslip is to give the individual being paid absolute clarity on how much they’ve been paid and why deductions have been made before their salary hits their bank account.

It is a legal requirement for registered employers to send their employees a payslip every time they pay them. This requirement only relates to those employed under PAYE, so if you are self-employed and working for a company, you won’t receive a payslip when your invoices are paid.

2. What Does a Payslip Look Like

Payslips design can vary between employers because there is no set format they need to follow. However, employers are legally required to show certain information on payslips to ensure total clarity of what’s been paid.

Here is an example payslip:

How to Read a Payslip

3. How to Read a Payslip & Payslip Deductions

Payslips are typically split into different sections, despite any differences in appearances due to branding or page size, for example. These sections are usually:

  1. Personal Information, Tax Code & Pay Information
  2. Gross Pay
  3. Payslip Deductions
  4. Net Pay
  5. Employer Information

3.1 Personal Information, Tax Code & Pay Information

When you start to read a payslip, the first information you’ll most likely find is personal information on the person being paid, such as their full name and national insurance number.

Payslips are hugely confidential because they contain information about how much someone is paid, so if you are an employer you must make sure you have a robust system that ensures the right payslip reaches the right person.

Your payslip will show the period of pay. In the above payslip example, this is 31 May 2021, Period 2. When it comes to payroll, pay periods are based on the tax year (which runs from 6 April to 5 April each year) so May is month 2 for tax purposes.

As you continue to read your payslip, you’ll definitely see the tax code being used. Tax codes tell employers how much income tax they need to deduct from an individuals pay and personal allowance (or free-pay) they are entitled to. The most common tax code is 1257L for the tax year 2021/2022 (and 1250L for the tax year 2020/2021).

Tax codes are set by HMRC and employers are notified which ones to use either from a P45, starter checklist or via a P6 notification. Whether you are an employer or employee, it’s important to remember that HMRC sets out tax codes to use. So if you are an employer, you must always use the code sent to you by HMRC.

If you are an employee it can pay to check your code because mistakes do happen or HMRC may have based your code on historic information, which may be out of date. You can read more about tax codes in this guide, as well as how to check whether you are on the right one.

3.2 Gross Pay

Moving to the next section of the example payslip, you’ll see details of gross pay. This is the amount an employer agrees to pay someone as a ‘basic salary’ before deducting tax – usually the amount in the employment contract.

Any additional earnings such as bonuses, expense refunds or car allowance, will be included here most likely as a separate line item again for total clarity. Normally these additional earnings are subject to income tax and national insurance, although some, like expense reimbursement and childcare, can be tax-free.

3.3 Payslip Deductions

The next section can often cause the most confusion when reading a payslip. This section covers payslip deductions made that reduce the amount being paid to an individual. The most common deductions are:

  1. Income Tax which is deducted in accordance with the tax code of the individual
  2. National Insurance which is deducted according to how much the individual is paid during the pay period
  3. Pensions deducted in accordance with government guidelines and pension tax relief given on qualifying earnings

Looking to understand how much of each of these payslip deductions should be made? Find out more in this guide ‘What is PAYE’.

3.4 Net Pay

Net pay is the amount left from gross pay after above payslip deductions, which is paid to the employee. The employer is responsible for paying over any payslip deductions made to the appropriate authorities. For example, income tax & national insurance must be paid to HMRC and pensions to the Company workplace pension scheme like Nest.

This system of deducting and paying over by employers is known as the PAYE system. This system makes businesses registered as employers responsible for making deductions from their employees’ salaries and paying the amounts over on their behalf.

3.5 Employer Information

The final section when reading through the payslip above is information about the employer. We can see their employer reference number, 475/FC12345, which is their employers reference number.

You’ll also see details of Employers employers national insurance and pension contributions. Employers are legally obliged to pay additional national insurance on behalf of every individual they employ earning over a certain amount, as well as contributing an additional amount towards each person’s pension.

4. What Information Should Be On a Payslip

Payslips must show certain information by law so that it is clear to the individual exactly what they have been paid and the payslip deductions made. A payslip must show:

  • earnings before tax and deductions;
  • details of deductions made including amount and details of what was made eg: pension of season ticket loan;
  • hours worked, if you are paid according to time worked.

5. Should You Keep Your Payslip

Payslips are a legal document that tells individuals how much they have been paid so act as evidence of income for things like loans and mortgages. Lenders can ask for evidence of earnings for anything up to 6 months of payslips so it’s a good idea to keep hold of your payslips.

If you are employed and self-employed you’ll need to declare all your earnings during the tax year when you fill in your tax return. That means filling in two sections of your return:

You can also find the details you’ll need about your employment income on your P60.

Employers are required by HMRC to keep detailed payroll records, including details of who they’ve paid and how much, for 3 years from the end of the tax year they relate to.

About Anita Forrest

Anita Forrest is a Chartered Accountant, spreadsheet geek, money nerd and creator of www.goselfemployed.co - the UK small business finance blog for the self-employed community. Here she shares simple, straight-forward guides to make self-employment topics like taxes, bookkeeping and banking easy to understand.