How Do I Set Up Payroll for My First Employee

Hiring your first employee is a big step for any business. It can feel exciting and daunting at the same time because bringing someone onto your payroll comes with legal duties that many new employers underestimate. In my opinion setting up payroll is one of those tasks that seems complicated until you break it down into steps. Once you understand the process it becomes routine and far less intimidating than it first appears.

This guide explains exactly how to set up payroll for your first employee in the UK. You will learn what you need to do before you pay anyone, how to register as an employer, how to set up payroll correctly, what HMRC expects, how pension rules work and how to avoid the pitfalls that often catch first time employers. I will also include practical examples and insights based on real life experience supporting new employers.

By the end you will be confident about what to do, what to avoid and how to stay compliant from day one.

Understanding Your Obligations as an Employer

As soon as you employ someone you take on new legal responsibilities. These include:

Paying employees correctly and on time
Deducting and reporting PAYE tax
Deducting and reporting National Insurance
Paying employer National Insurance when due
Complying with workplace pension rules
Following employment legislation
Keeping payroll records for at least three years

Many new employers are surprised to learn how quickly these obligations start. You must set up payroll even if you have only one part time employee.

In my opinion the key to success is to set up everything properly before their first pay date rather than trying to correct errors afterwards.

Step by Step Guide to Setting Up Payroll for Your First Employee

1. Gather Key Information Before You Register

Before anything else you need:

Your employee’s full name
Address
Date of birth
National Insurance number
Right to work documents
Their P45 from their previous employer (if they have one)

If they do not have a P45 you must ask them to complete HMRC’s Starter Checklist which tells you what tax code to use.

You cannot run payroll without these details so collect them early.

2. Register as an Employer With HMRC

You must register as an employer before the first payday. You can do this online through GOV.UK.

When you register HMRC will give you:

An employer PAYE reference number
An Accounts Office reference
Access to PAYE Online

You need these two reference numbers to run payroll. They normally arrive within five working days.

In my experience this step causes unnecessary stress because people leave it too late. I always advise registering at least two weeks before the first payday.

3. Choose Your Payroll Method: Software or Outsource

You have two options:

Run payroll yourself using software
Outsource payroll to an accountant or payroll provider

If you run payroll yourself you must use HMRC approved payroll software. Free options exist although most businesses choose a paid system because it is easier and supports pensions and payslip formatting.

Popular choices include:

Xero
BrightPay
Moneysoft
QuickBooks
FreeAgent
Sage

Payroll is much easier with software. It calculates tax, National Insurance and pension contributions automatically.

4. Set Up Your Payroll Software

Your software will ask you to enter:

Your PAYE reference
Your Accounts Office reference
Your business details
Pay dates
Employee details
Tax code
National Insurance category
Salary or hourly pay rate

Your first employee’s tax code is normally based on their P45. If they do not have one you apply the code from the Starter Checklist.

Most new employees use tax code 1257L unless HMRC instructs otherwise.

5. Add Your Employee to Payroll

You must enter your employee’s details correctly. This includes:

Full legal name
Address
Start date
Date of birth
National Insurance number
Salary or hourly wage
Working hours
Holiday entitlement
Pensions information
Starter declaration

The accuracy of this information affects their tax. I always tell business owners to double check spelling and NI numbers because even small errors delay HMRC updates.

6. Decide How Much to Pay Your Employee

You must pay at least the National Minimum Wage or National Living Wage depending on age.

You must also decide:

How often they will be paid
Weekly
Four weekly
Monthly

Most small businesses choose monthly payroll because it is the simplest option.

7. Provide a Written Statement of Employment

By law employees must receive this on or before their first day. It must include:

Job title
Pay
Hours
Holiday entitlement
Notice periods
Benefits
Place of work

This is separate from the contract although most employers issue a full contract instead.

8. Check Whether You Must Enrol Them in a Pension

Auto enrolment applies to all employers. You must assess your employee to determine if they qualify for a workplace pension.

They must be enrolled if they:

Are aged between 22 and State Pension age
Earn at least £10,000 per year

If they qualify you must:

Set up a pension scheme
Enrol them automatically
Deduct employee contributions
Add employer contributions
Report contributions to the pension provider

Even if they do not qualify you must still inform them of their rights.

In my opinion understanding pension duties is one of the most important parts of running payroll because non compliance leads to quick enforcement and fines.

9. Run Payroll for the First Time

When it is time to pay your employee you must:

Calculate their gross pay
Deduct Income Tax
Deduct employee National Insurance
Deduct pension contributions if applicable
Calculate employer National Insurance
Calculate employer pension contributions
Produce a payslip
Submit a Full Payment Submission (FPS) to HMRC

The FPS must reach HMRC on or before the day you pay your employee. This is a legal requirement.

10. Pay Your Employee and Pay HMRC

After running payroll you must:

Pay your employee
Save payroll records
Pay HMRC the tax and NI you owe

Payments to HMRC are usually due by the 22nd of the following month if paying electronically.

Missing these deadlines can result in penalties.

11. Keep Your Payroll Records Safe

You must retain records for at least three years including:

Employee details
Payslips
Payroll reports
FPS submissions
Pension information
Hours worked
Holiday taken
Sick pay records

Good record keeping is essential in case HMRC audits your payroll.

Understanding PAYE and Your Tax Responsibilities

PAYE stands for Pay As You Earn. It is the system that ensures employees pay the correct tax and NI.

As an employer your responsibilities include:

Deducting the correct tax
Sending payroll data to HMRC
Paying over tax and NI
Applying correct tax codes
Issuing payslips
Submitting year end reports

In my opinion PAYE looks complicated although payroll software takes away 90 percent of the difficulty.

How HMRC Determines Tax Codes

Tax codes are based on:

Personal Allowance
Benefits in kind
Outstanding tax from previous years
Job changes
Pension income
Marital allowance
Other adjustments

HMRC issues tax codes automatically. If you think your employee has an incorrect tax code they must contact HMRC directly.

What Happens If You Make a Payroll Mistake

Mistakes are common for first time employers and HMRC expects occasional errors as long as you correct them quickly.

Common mistakes include:

Using the wrong tax code
Incorrect NI calculation
Wrong start date
Incorrect working hours
Misapplication of pension rules

You can correct most errors with an amended FPS or a future payroll adjustment.

In my experience mistakes are much easier to fix when spotted early so always review your first few payroll runs carefully.

Real World Examples of Hiring Your First Employee

Example 1: Hiring a Full Time Administrator

You pay them monthly
You register for PAYE
You enrol them in a pension
Payroll runs smoothly with software

Example 2: Hiring a Part Time Worker

Earnings may not exceed NI thresholds
Tax may still be due if they have another job
Pension assessment still required

Example 3: Hiring a Casual Worker

You must determine if they are an employee or worker
You must still run payroll
Holiday accrues even for casual hours

Example 4: Hiring a Family Member

Rules are the same
You must pay at least minimum wage
You must treat them like any employee

Example 5: Hiring Your First Apprentice

You pay apprentice rates
You follow apprentice payroll rules
You ensure correct pension assessment

Common Mistakes First Time Employers Should Avoid

Using manual calculations instead of payroll software
Ignoring pension duties
Missing HMRC submission deadlines
Failing to issue payslips
Not understanding holiday entitlement rules
Paying wages informally
Forgetting to send an FPS
Assuming low hours means no PAYE setup
Using the wrong starter declaration

In my opinion the biggest issue is assuming payroll is something you can “wing” for the first month. Payroll must be correct from day one.

Payroll and Holiday Entitlement

Every employee has the right to paid holiday. The minimum is 28 days for full time employees including bank holidays.

Part time employees have pro rata entitlement.

Payroll must factor in:

Holiday pay
Accrual
Holiday taken
Pay in lieu when someone leaves

Payroll software usually calculates this automatically.

Should You Outsource Payroll Instead

Many first time employers decide to outsource payroll because:

It saves time
It ensures compliance
Errors are less likely
Pensions are handled correctly
Payroll reports are accurate

Outsourcing is usually inexpensive and can give peace of mind.

In my opinion outsourcing is especially helpful for new employers because it frees up your time to focus on your growing business.

Conclusion

Setting up payroll for your first employee is a structured process that becomes far easier once you understand each step. You need to register as an employer, collect the right information, set up payroll software, assess pension duties and report everything correctly to HMRC.

In my opinion the key to success is to set everything up before you pay your employee and to lean on software or professional support where needed. With the right preparation payroll becomes routine and your employee can be paid confidently and compliantly from the very first month.