A guide to Employment Allowance – the rules and how to claim it

Employing new team members can be an exciting time for any small business owner - it’s a physical representation of business growth, but new challenges and costs come with hiring.

With 38% of new and small businesses in the UK failing due to a lack of funds, keeping on top of finances and exploring cost-saving measures are key for any new business owner.

Hiring new employees costs an employer in training, equipment, wages, and tax such as National Insurance.

While National Insurance is a mandatory cost, there is a way to reduce the financial impact growing a team can have on your business’ finances.

One route to consider is to make use of the Employment Allowance.

Read our guide on 10 ways to reduce your business costs.

What is employer’s National Insurance?

National Insurance (NI) is the amount of money owed to HMRC depending on how much each employee earns, and it is made up of two payments: one from the employee and one from the employer.

The employee pays Class 1 (primary) National Insurance if they are under the State Pension age and earn above the Primary Threshold, currently (as of April 2023) £12,570 per tax year. 

The employer pays Class 1 (secondary) National Insurance on the employee’s earnings if they are above the Secondary Threshold, which is currently (as of April 2023) £9,100 per tax year. This threshold is due to be redrawn at £5,000 from April 2025, as announced in the October 2024 budget statement.

The employer is responsible for managing Class 1 National Insurance and deducting the payable amount from the employee’s wages before the money is paid into their bank account.

This, plus the employer’s NI contribution, is paid directly to HMRC by the business, usually every month.

What is Employment Allowance?

Employment Allowance is a government initiative that allows eligible employers to reduce their National Insurance liability by up to £5,000 for the 2024/25 tax year.

This figure will increase to £10,500 in April 2025 as announced by the Chancellor in the October 2024 budget statement.

This initiative is designed to support smaller businesses with employment costs, allowing them to claim and pay less employers’ Class 1 National Insurance each time they run payroll until the full £5,000 allowance is spent or the tax year ends – whichever comes first.

A claim can also be made if the employer’s liability is less than £5,000.

It is important to remember that the £5,000 Employment Allowance is per business, not per employee, and can only be claimed against one payroll if your business has multiple.

Once the £5,000 allowance limit is met, any excess will need to be paid by the business to HMRC.

For example, if your business’ NI bill comes to £5,500, it will only need to pay the excess of £500.

Who is eligible to apply for Employment Allowance?

To be eligible for Employment Allowance, you must be:

• registered as an employer
• be a business or charity with documented employees
• have employers’ Class 1 National Insurance liabilities less than £100,000 in the previous tax year
• have two or more directors who earn more than the secondary threshold for Class 1 National Insurance contributions (if you are a limited company employing only directors).

Freelance sole traders and contractors are not eligible for Employment Allowance as they do not pay Class 1 National Insurance, nor can you claim on off-payroll workers (IR35) or individuals hired for personal work, such as a childminder or gardener.

However, you can claim if they are a care or support worker.

Public bodies and businesses doing more than 50% of their work in their public sector also cannot claim (unless they are a charity).

How do you claim Employment Allowance?

You can claim Employment Allowance at any point during the tax year as part of the Real Time Information (RTI) submission you make to HMRC as part of your payroll process.

Once your claim has been submitted, you can immediately start using your allowance.

The claiming process will differ depending on whether you use your own payroll software or HMRC’s Basic PAYE Tools.

If using your own payroll software, you will need to enter “Yes” into the ‘Employment Allowance indicator’ field when you next send an Employment Payment Summary (EPS) to HMRC.

If your payroll software doesn’t have this feature, you could consider switching to HMRC’s Basic PAYE Tools.

If using HMRC’s Basic PAYE Tools, you will need to select ‘Change employer details’ after choosing the correct name on the ‘Employer’ menu on the homepage.

You would then select ‘Yes’ in the ‘Employment Allowance indicator’ field.

Depending on whether de minimis state aid applies to you, select the relevant response, and send your EPS as usual.

Considering outsourcing your payroll? Read our guide on outsourcing guide for smaller businesses.

Claiming Employment Allowance for past tax years

It is possible to backdate your claim for Employment Allowance for previous tax years.

However, you can only backdate your claim as far as four years.

For example, if you wanted to make an Employment Allowance claim for the tax year 2021 to 2022 (the tax year ending on April 5, 2022), you would need to make your claim no later than April 5, 2026.

To make a claim, you will need a separate EPS for each year you claim for when making any claims for ended tax years.

If you make a claim a year after the tax year ends, and your PAYE is paid to date, HMRC will either set your repayment against any future existing liabilities or refund the amount if you ask.

It’s worth noting that the allowance has changed significantly between tax years.

From April 2016 to April 2020 the value was £3000 and then increased to £4000 between 2020 and 2022.

Why you should keep records

Any records relating to Employment Allowance claims must be kept for at least three years after the end of the tax year you have claimed for.

These records will need to demonstrate why you were entitled to the claim, how much allowance was used, and what liabilities were covered.

You cannot back-claim Employment Allowance without EPS for the past years you are trying to claim for.

HMRC will charge penalties and interest for any late returns on Employment Allowance.

They could be made payable by revoking your Employment Allowance and paying the allowance off; however, other factors are considered.

How to stop claiming Employment Allowance

If you are no longer eligible for Employment Allowance, you will need to select ‘No’ in the ‘Employment Allowance indicator’ field when you send your next EPS.

Do not select ‘No’ simply because you have already reached the £5,000 limit before the end of the tax year (though this won’t make you ineligible) or because you are no longer employing someone – the allowance will continue until the end of the tax year.

It’s important to remember that if you do end your claim before the end of the tax year, any allowance you’ve been given will be removed, and you will have to pay any employers’ Class 1 (secondary) National Insurance.