What is payroll, and how does it actually work?
TL;DR, the essentials
- Payroll is the whole process of calculating what employees earn, taking off the right deductions and paying them, then reporting it to the tax authority.
- In the UK, the main statutory deductions are Income Tax (via PAYE), National Insurance and, for most staff, a workplace pension.
- Gross pay minus deductions equals net pay, the take-home amount the employee actually receives.
- Employers must report each pay run to HMRC in real time (RTI), on or before payday.
Ask five people “what is payroll?” and you will get five answers: the money, the payslip, the software, the department, the monthly headache. They are all a bit right. Payroll is the end-to-end process an employer runs to pay staff correctly and on time, work out the tax and other deductions, and report it all to the government. Get it wrong and you face unhappy employees and penalties. This plain-English guide walks through what payroll covers, the step-by-step process and the UK 2026/27 figures, for information only and not as tax advice.
What does payroll actually mean?
At its simplest, payroll is the system for paying the people who work for you. But the word covers three overlapping ideas, and it helps to keep them apart.
The process
Calculating gross pay, applying deductions, producing payslips and paying staff each cycle.
The money
The total amount an employer spends on wages, plus employer taxes such as employer National Insurance.
The function
The people, or software, responsible for running it accurately and on time.
Payroll sits at the meeting point of HR and finance. HR owns who is employed, on what terms and with which benefits. Finance owns paying accurately and reporting to HMRC. When those two are out of sync, that is where payroll errors creep in.
What are the steps in the payroll process?
Every pay run, whether weekly or monthly, follows the same sequence. Understanding it demystifies the payslip and the software behind it.
Work out gross pay
Add salary or hourly pay, overtime, bonuses and commission to get the total before deductions.
Apply the tax code
Use the HMRC tax code to calculate Income Tax due under PAYE (Pay As You Earn).
Calculate National Insurance
Work out employee and employer NI based on the earnings and the NI category letter.
Take other deductions
Pension contributions, student loan repayments and any court-ordered attachments.
Pay and report
Pay the net amount, issue payslips and submit the figures to HMRC in real time.
Quick quiz
What does PAYE stand for?
Which deductions come out of pay?
Deductions are what turn gross pay into take-home pay. In the UK they split into statutory (required by law) and voluntary (chosen by the employee). The main ones for 2026/27 are:
Key UK deductions (2026/27, indicative)
- Income Tax via PAYE. Personal Allowance of £12,570 at 0 %, then 20 % up to £50,270, 40 % up to £125,140 and 45 % above.
- National Insurance: employee Class 1 at 8 % on earnings between £12,570 and £50,270, then 2 % above.
- Workplace pension: auto-enrolment minimum of 5 % of qualifying earnings from the employee (with employer contributing on top).
- Student loan: repayments start above the plan threshold (for example around £29,385 on Plan 2 for 2026/27).
Sources: PayFit and HMRC guidance, 2026/27 tax year. Figures indicative and subject to change.
Note that employers pay their own costs on top, chiefly employer National Insurance (15 % above the secondary threshold since April 2025) and their share of the pension. These do not reduce the employee’s net pay, but they matter a lot for the cost of hiring.
Figures move every April
Tax bands, NI rates and thresholds are set for the tax year and usually change from 6 April. Always confirm current figures on GOV.UK before relying on them. Rates also differ in Scotland, which sets its own income tax bands.
How does gross pay become net pay?
The headline number on a job offer is nearly always gross pay, the full amount before anything is taken off. Net pay is what actually lands in the bank. The gap between the two is the sum of all the deductions above.
Take a simple example for illustration: an employee on £30,000 a year. Roughly the first £12,570 is tax free, the rest is taxed at 20 %, National Insurance applies at 8 % on earnings above the threshold, and a pension contribution comes off too. The exact net depends on the tax code, pension scheme and whether it is a salary sacrifice arrangement, which is why a payslip shows every line rather than a single figure.
Running payroll for a growing team?
The right software applies the latest bands and files with HMRC automatically.
How is payroll reported to HMRC?
UK employers must tell HMRC about payments and deductions in real time, a system known as RTI (Real Time Information). In practice that means submitting a Full Payment Submission (FPS) on or before each payday, listing what every employee was paid and what was deducted. An Employer Payment Summary (EPS) covers adjustments such as statutory pay recovered.
Getting RTI right and on time is not optional: late or inaccurate submissions can trigger penalties. It is also why most employers, even small ones, use payroll software rather than spreadsheets.
Payroll is one of the few business processes where “roughly right” is not good enough. Staff notice a wrong payslip immediately, and HMRC notices a wrong submission not long after.The Miister Software team, payroll notes.
Should you run payroll in-house or with software?
Very small employers can run payroll manually using HMRC’s Basic PAYE Tools, but it is slow and error-prone. Most move to dedicated payroll or HR software as soon as they have more than a handful of staff. Good software:
- Applies the current tax bands, NI rates and thresholds automatically each April.
- Handles auto-enrolment pensions, statutory sick pay and parental pay.
- Files RTI submissions to HMRC and produces compliant payslips.
- Keeps an audit trail for every pay run and every employee.
Watch the 2026 changes
Two 2026 reforms hit payroll directly: the National Living Wage rises to £12.71 an hour from 1 April 2026, and Statutory Sick Pay becomes payable from day one of absence from 6 April 2026. Make sure your software is updated for both.
Next step
Ready to stop wrestling with payroll by hand? See our best HR and payroll software 2026 comparison, or browse the HR & payroll hub for more guides and explainers.
Frequently asked questions
What is payroll in simple terms?
Payroll is the process an employer uses to pay staff correctly and on time. It means calculating each person’s gross pay, taking off the right deductions such as tax, National Insurance and pension, paying the net amount, and reporting the figures to the tax authority.
What deductions come out of a UK payslip?
The main statutory deductions are Income Tax (through PAYE), National Insurance and, for most employees, a workplace pension under auto-enrolment. Some staff also repay student loans. Voluntary deductions can include schemes such as cycle-to-work. Employer costs like employer National Insurance sit on top and do not reduce take-home pay.
What is the difference between gross pay and net pay?
Gross pay is the total before any deductions, including salary, overtime and bonuses. Net pay, or take-home pay, is what the employee actually receives after Income Tax, National Insurance, pension and any other deductions have been taken off.
What is RTI in payroll?
RTI stands for Real Time Information. It is the UK system requiring employers to report pay and deductions to HMRC on or before each payday, mainly through a Full Payment Submission. Late or inaccurate submissions can lead to penalties, which is why most employers use payroll software.
Do small businesses need payroll software?
Legally you can run payroll manually with HMRC’s Basic PAYE Tools, but it is slow and easy to get wrong. Most employers with more than a few staff use payroll or HR software, which applies the current tax bands, handles pensions and statutory pay, and files RTI submissions automatically.