The special provisions allowing employers to recover primary NICs on securities-based earnings by selling some of the securities are set out in the National Insurance Contributions and Statutory Payments Act 2004 and The Social Security (Contributions) (Amendment No. 5) Regulations 2004. Guidance on the way in which the new procedures work has been provided by the Inland Revenue.

Securities include shares, company loan stock, government gilts, and a number of specialised financial instruments.

Although liability for primary Class 1 NICs falls on the employee, the Social Security Contributions legislation requires the employer to pay the primary contributions to the Accounts Office and recover the NICs by deducting them from the employee's earnings.

Therefore, when an employer makes a payment of securities to an employee, the primary Class 1 NICs due on the benefit must be paid by the employer to the Accounts Office, even though the employer is unable to deduct the NICs because the securities are not in the form of cash. There is no arrangement for the employee to pay the primary NICs direct to the Inland Revenue.

The employer has two options for collecting the NICs from the employee:

• by making deductions from the employee's future cash earnings, in both the current and next tax years, or
  
  
• by making a written agreement with the employee to sell or withhold an amount or percentage of the securities to settle the employee's liability.

The latter arrangement can be used even if deductions could otherwise be made from future cash earnings. However, it may be the only option where an NICs liability arises on securities provided to employees who have left the employment or who are about to leave.

There is no standard or statutory format for these written agreements. Agreements do not require prior Revenue approval. If the arrangement is included in the standard terms and conditions for share award or option grants, there should be a requirement for the employee to give written acceptance of the arrangement.

If an employee refuses to enter into a written agreement, the employer may still recover the primary NICs from the employee's subsequent cash earnings. The employee's consent is not required for this.

The following example illustrates the procedure and also the issues that may arise. Note that the Inland Revenue's example, on which the following example is based, shows incorrect calculations.

An employer grants an option over 1,000 shares to an employee. At the time of the grant the shares are worth £;20. The employer enters into a written agreement with the employee to withhold an amount of shares equal to the primary NICs liability that arises when the payment of earnings arise. (An agreement may be made at any time up to the day on which the securities-based earnings are paid.)

Three years later, when the employee exercises the option, the shares are worth £;40 each. The share-based earnings are therefore worth £;20,000, i.e. 1,000 shares @ £;20, the amount by which the shares have increased in value.

The employee is already paying primary NICs up to the UEL on normal cash earnings so the liability on these earnings is at 1%, the rate for earnings above the UEL. The primary liability that the employer pays to the Inland Revenue on the employee's behalf is £;200, i.e. £;20,000 @ 1%. The employer retains 5 shares on exercise of the option, as this is equal to the amount of NICs paid on the employee's behalf, and gives the employee a written statement to that effect.

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...back to 1 October 2004

Sources:
www.inlandrevenue.gov.uk/shareschemes/recouping-employees-nics.htm