Payroll software calculates pay; the nominal ledger records what it cost the business. The two connect through one payroll journal per pay run. How useful that journal is depends on the expense accounts it posts to, so it is worth setting them up deliberately rather than accepting a single “Wages” line.
The expense side of payroll
Every pay run produces three distinct costs for the employer:
- Gross pay – salaries, wages, overtime, bonuses, commission and statutory payments such as sick pay and maternity pay, before any deductions
- Employer’s National Insurance contributions – an extra cost on top of gross pay, not deducted from the employee
- Employer pension contributions – the employer’s share paid into the workplace pension scheme
Give each its own account. They are presented separately in the statutory accounts, they are budgeted differently, and they react differently to pay rises and salary sacrifice. A suggested set:
- Wages and salaries – staff
- Directors’ remuneration
- Employer’s NIC – staff
- Employer’s NIC – directors
- Employer pension – staff
- Employer pension – directors
- Bonuses and commission (optional, if they are large or seasonal)
Production staff whose cost belongs in cost of sales can have their own direct labour account. The rates and thresholds for employer NIC change regularly and are explained in employer National Insurance.
Why directors’ pay sits on its own
Company accounts carry a separate disclosure of directors’ remuneration, with the level of detail depending on the company’s size, and the figure your accountant needs is the directors’ salaries, fees and bonuses plus the company’s pension contributions for them. If directors’ pay is buried in the general wages account, someone has to rebuild it from payslips at year end.
There is a tax reason too. Owner-directors often take a small salary and the rest as dividends, and the salary level is a deliberate decision each tax year; see directors’ salary. Dividends are never posted to wages: they are a distribution of profit from retained earnings, not an expense.
A payroll journal from start to finish
A small manufacturer runs its monthly payroll. The payroll software summary shows:
| Item | Staff | Director | Total |
|---|---|---|---|
| Gross pay | £14,600 | £2,400 | £17,000 |
| Employee PAYE income tax | £2,050 | ||
| Employee NIC | £780 | ||
| Employee pension contributions | £850 | ||
| Student loan repayments | £95 | ||
| Net pay to employees | £13,225 | ||
| Employer’s NIC | £1,620 | £180 | £1,800 |
| Employer pension | £438 | £72 | £510 |
Net pay is gross pay less all employee deductions: £17,000 − £2,050 − £780 − £850 − £95 = £13,225.
The journal that goes into the ledger:
| Account | Debit | Credit |
|---|---|---|
| Wages and salaries – staff | £14,600 | |
| Directors’ remuneration | £2,400 | |
| Employer’s NIC – staff | £1,620 | |
| Employer’s NIC – directors | £180 | |
| Employer pension – staff | £438 | |
| Employer pension – directors | £72 | |
| PAYE and NIC payable | £4,725 | |
| Pension contributions payable | £1,360 | |
| Net wages control | £13,225 |
The PAYE and NIC liability is tax £2,050 + employee NIC £780 + student loan £95 + employer NIC £1,800 = £4,725. Pensions payable is the employee’s £850 plus the employer’s £510. Total debits and credits are both £19,310, which is the full cost of the month’s payroll to the business.
Notice that the employee’s own tax, NIC and pension deductions do not appear as expenses. They are part of gross pay, which is already expensed, and the journal simply redirects them to the people who will be paid: HMRC and the pension provider. How those three credit balances are cleared is the subject of payroll liabilities.
Things that change the journal
- Salary sacrifice reduces gross pay and increases employer pension instead, so the split between accounts shifts even though the total cost may barely move.
- Employment Allowance, if the company qualifies, reduces the employer NIC payable. Post it as a credit to the employer’s NIC expense when it is claimed, so the expense shows the real cost.
- Recovered statutory pay, such as reclaimed maternity pay, is credited against the relevant cost when claimed through the EPS.
- Month-end timing: if pay dates and month ends do not line up, accrue the unpaid portion as covered in payroll accruals at month end.
How the figures appear in the accounts
Where the profit and loss account uses Format 2, staff costs appear as wages and salaries, social security costs and other pension costs; under Format 1, staff costs are spread across cost of sales and administrative expenses, and companies that are not small disclose the same three-way analysis in a note. Every company, micro-entities included, discloses its average number of employees. The account structure above produces all of this without extra analysis.
A sense check each pay run
Before posting, agree the journal totals to the payroll summary and check that gross pay is in line with last month after known starters, leavers and pay rises. For a detailed look at mapping payroll reports to accounts, see payroll journal entries.