As clear as mud: paying allowances and the national minimum wage

Most employers understand the basics of the national minimum wage (NMW), however complications can arise when looking at what counts as pay for NMW purposes. Reportedly, this is one of the most common reasons for NMW underpayments. Enforcing the NMW is an increasing priority for the government and, as the recent headlines show, getting this issue wrong can result in significant reputational damage together with hefty fines and back pay.

What counts as pay?

The following elements of pay count towards NMW:

basic salary (the gross amount, before any deductions such as employee pension contributions or PAYE and National Insurance contributions)
commission and some bonuses/incentive payments based on performance (but not any premium paid for overtime or shift work)
piecework payments
accommodation offset.

It is important to note that if you have salary sacrifice arrangements in place; it is the post salary sacrifice amount which counts as basic pay for NMW purposes. However, the government consulted on this, and it is possible that these rules may change in the future.

What about allowances?

Most allowances do not count towards NMW unless they are consolidated into basic pay. For example, allowances paid for working unsociable hours, being on call or being a trained first aider do not count towards NMW.

Whether an allowance is consolidated into basic pay can be difficult to determine. If the allowance is included in pay increases, pensionable pay or overtime rates, this is a good indicator that it forms part of basic pay and will count towards NMW. However, if the worker is entitled to a lower rate of pay under their contracts (whether or not they are actually ever paid the lower rate), this might mean the allowance is not consolidated into basic pay.

It’s also important to check whether other payments might actually be allowances for NMW purposes. For example, a payment termed an “attendance bonus” may in fact be an allowance because it is paid for working unsociable hours or because the worker is on-call. It’s not actually a payment based on performance despite being categorised as one.

Clear as mud. So if you pay premiums or allowances for working overtime, weekend or night shifts, bank holidays or longer than a certain number of hours, the premium rate/allowance does not count towards NMW.

Allowances paid in relation to expenses incurred in connection with the job, such as a petrol allowance or expenses for travel to a temporary workplace (and related subsistence) that is eligible for tax relief, also do not count towards NMW.

Example

A 25-year-old worker works 20 hours per week and receives total pay of £165. This implies that on average they are paid £8.25 per hour (£165/20 = £8.25). However, they work 10 hours per week Monday to Friday at their basic rate, and the remaining 10 hours they work on Saturday and Sunday attracts a shift premium of £0.90 per hour.

Their minimum wage pay is calculated as follows:

Step 1: Work out the amount they have been paid above their basic rate.

£0.90 (shift premium per hour) x 10 = £9 premium for the Saturday and Sunday work

Step 2: Work out the minimum wage pay by taking away the premium element from the total pay.

£165 (total pay) - £9 (the premium element) = £156 (total minimum wage pay). This is an average hourly rate of £7.80 (£156/20 = £7.80). This is below the national living wage rate of £8.21 an hour and so is non-compliant.

What happens if you get it wrong?

HMRC is tasked with enforcing the NMW, and makes sure employers get it right, leveling penalties plus naming and shaming when mistakes are made; however minor.

Where HMRC finds an employer has not been paying NMW, arrears must be paid immediately and a fine will be imposed (up to 200% of the arrears owed, with a maximum of £20,000 per worker). If the total NMW underpayment exceeds £100 the employer also faces reputational damage from being named and shamed.

What should you be doing?

The best advice is to make sure you:

understand before you put together renumeration packages what is included or not included for NMW purposes
keep up to date and regularly review NMW matters
review your historic processes to ensure past compliance with NMW – HMRC can look back six years for non-compliance (five years in Scotland).

The authors are Susan Ball, RSM tax partner and Charlie Barnes, employment lawyer and associate director.

This article is provided by RSM.