What is a payroll service?

A payroll service enables businesses to pay their employees accurately and on time while also ensuring that they follow UK employment, tax and accounting legislation. Payroll services include payroll software and outsourced managed payroll services. This guide provides an overview of payroll services, compares the different options available in the UK market and will help you select the best payroll service supplier for your business.

This is the main photograph for the article What is a payroll service? It shows two employees accessing payroll software using their laptops.

Photo by Scott Graham on Unsplash.

The term ‘payroll’ can be used to describe a business’s total monthly wage bill, its total number of employees or the records it keeps relating to employee payments, but in many cases it is used to describe the process used by a business to make salary payments to employees and submit filings to HMRC.

Employees are critical to the success of all businesses and paying them on time and correctly is a key factor in ensuring that they remain motivated and loyal to your business. Payroll services have been developed to help businesses make those employee payments accurately and on time while complying with complex and regularly updated employment, tax and accounting legislation.

However, even business’s with well organised and managed payroll functions have come under pressure over recent years due to a range of new UK legislation, in particular:

  • The introduction by HMRC of real time information (RTI) in 2013.
  • The full implementation of workplace pensions auto enrolment in 2018.
  • The Data Protection Act of 2018 (implementing GDPR in the UK).

This legislation has resulted in businesses facing increased compliance obligations, greater operational scrutiny, and having to manage more complex payroll processes.

Over the same period there have been other business trends – the increasing sophistication and popularity of outsourced services, the huge growth in broadband penetration and the development of cloud services technology – that have driven innovation across the payroll industry.

Together, these legislative changes and business trends have resulted in new developments in UK payroll services including the growth of online payroll software and the increasing popularity of outsourced managed payroll services, both of which aim to improve business productivity and reduce costs.

This article provides an overview of payroll services, compares the different solutions available in the UK market, and aims to assist you decide which payroll service supplier is right for your business.

Payroll services can be complicated, technical and reliant on acronyms and jargon. To help you understand the technicalities we have provided a stand-alone glossary of relevant payroll terms which you can refer to alongside our payroll services articles.

In this article

What is payroll?

The UK government differentiates between those workers that a business employs under an employment contract (employees) and other types of workers – agency staff, freelancers/consultants/contractors, people working under zero hours contracts, and employing family members, young people and volunteers.

UK employment legislation and worker payment obligations vary between each category of worker. See the UK Government’s website for guidance at https://www.gov.uk/get-ready-to-employ-someone.

The term ‘payroll’ can be used in relation to employees in a number of ways:

  • The number of employees that a business currently has working for it.
  • The total wage bill for those employees.
  • The process of making payments to employees and HMRC.
  • The records that a business keeps relating to all employee payments made.
  • The business’s department that is responsible for processing all of the above.

As payroll services concern payments to employees there is a considerable overlap with a business’s accounting and human resource functions and the payroll function is usually managed within either a business’s HR or Finance department.

The complexity of a business’s payroll processes will vary considerably depending on:

  • Its number of employees.
  • The compensation structures that it offers.
  • The composition of its workforce (e.g. employees v. contractors).
  • The industry that it operates in.
  • Its locations (e.g. UK v. overseas operations).
  • Its growth aspirations.

Note: If you are a sole trader you do not need to run payroll for yourself (as legally there is no separation between yourself and your business) but you still need to run payroll if you have any employees.

Basic payroll processing

A payroll service has two primary functions:

  • To ensure that the business’s employees are paid correctly and on time.
  • To ensure that all relevant UK legislation and regulations are applied correctly.

Payroll services comprise the calculation of employee payments and taxes, the processing of those payments, making the appropriate filings to the HMRC and managing employee data as shown below:

Basic payroll processing

This infographic shows basic payroll service processing. It shows a series of circles setting out the payroll process around a central payroll system circle.

Businesses also need to collect and keep records of:

  • What they have paid their employees and the deductions they have made.
  • Reports and payments made to HMRC.
  • Employee leave and sickness absences.
  • Tax code notices.
  • Taxable expenses or benefits.
  • Payroll Giving Scheme documents.

Businesses must be able to demonstrate that their payroll records can show that they have reported all the required data accurately and all such payroll data must be kept for 3 years from the end of the tax year that they relate to.

If a business’s records are lost, stolen or destroyed it must inform HMRC as soon as possible and do its best to recreate them.

HMRC has the right to audit a business’s payroll records and, if it finds errors or omissions, it can charge a penalty of up to £3,000.

Recent legislative changes affecting your payroll service

The legislation that affects payroll services (e.g. employment, tax, accounting) is extensive, complex and updated regularly. Businesses that run their payroll processes in-house need to be aware of, and implement, relevant updates to legislation as soon as they become operative.

There have been a number of changes to UK legislation in recent years that have had a fundamental impact on British businesses and the UK payroll service industry and which you should be aware of in selecting the right payroll solution for your business:

  • Real time information (RTI): RTI was introduced by the UK government in 2013 and was a significant change to the PAYE (Pay As You Earn) legislation. The RTI legislation introduced an obligation on all employers to submit PAYE information electronically to HMRC ‘on-or-before’ the date of every payment that they make to their employees (previously employers had only needed to make an annual filing). This change was intended to reduce PAYE errors (often resulting in under/over payments and subsequent corrections), simplify the year end process, minimise fraud, and so make the payroll process more efficient.

Any payroll service that you choose for your business should be able to offer excellent RTI, auto enrolment and data protection functionality.

Why use a payroll service?

Payroll processing is complicated, time consuming and the associated legislation can be highly technical and updated regularly. As can be seen below, the risks to a business of not managing its payroll process in an organised and professional manner can be significant:

UK employee, tax and accounting legislation

HMRC obligations

  • UK employers are required to keep records of all employee payments and deductions and to submit PAYE information to the HMRC each time an employee is paid. This can be complicated and time consuming.
  • If HMRC filings have not been made correctly both the business and their employees could breach UK tax regulations.
  • HMRC has the power to issue a range of financial penalties for late or incorrect filings up to £3,000.

Business efficiency

  • Without professional payroll processes in place small errors or inconsistencies can accumulate over time and may prove difficult and costly to investigate or correct at a later stage.
  • Accurately making payroll calculations and payments, generating employee documents, submitting HMRC filings, making payments and correctly recording employee data is time consuming and can be expensive.
  • Accurate payroll data is essential for a business to understand and manage its P&L properly.

Employee relations

  • Failure to pay an employee properly may trigger a breach of their employment contract.
  • Employee loyalty will be significantly, if not irreparably, damaged by paying salary or pension amounts incorrectly or late.

Management time

  • Without professional payroll processes in place significant management time may need to be devoted to the payroll process, and rectifying any subsequent issues, rather than running the business.

Understanding and managing payroll services is a business function that should be carried out in a structured, professional way. Fortunately, the UK payroll services industry provides a range of payroll solutions suitable for start ups and small businesses as well as for large organisations.

HMRC recognised payroll software

HMRC tests both free and paid-for payroll software to ensure that the software can report PAYE information online and in real time (RTI). Payroll software that passes HMRC’s tests is added to its recognised software list. However, HMRC does not recommend one product or service over another.

HMRC has provided an introductory video guide to payroll software at https://www.youtube.com/watch?v=dyYMHJz7N9w.

Whatever payroll service you choose for your business, you should check that your preferred supplier has been recognised by the HMRC to give you comfort that it will comply with HMRC’s payroll guidelines.

The list of all HMRC recognised free and commercial payroll software can be found at https://www.gov.uk/payroll-software.

Payroll service options

There are a wide range of payroll service solutions available to UK businesses. You may decide to manage and operate your business’s payroll in-house in which case you will need to license software from a payroll software supplier. Alternatively, you may decide to outsource some or all of your business’s payroll processing activities to a third-party outsourced managed payroll service supplier.

A UK business can source payroll software from a range of suppliers:

  • HMRC: HMRC provides its own free ‘Basic PAYE Tools’ payroll software, for use by UK businesses with less than 10 employees.
  • Other free payroll software: There are a number of UK payroll software suppliers that provide free software to businesses with less than 10 employees.
  • Commercial payroll software:
    • On-premise payroll software: This is paid-for software that is licensed from a payroll software supplier and installed and run on your business’s own IT network.
    • Online payroll software: This is paid-for software that is run on a payroll software supplier’s own servers in their data centre with the software being accessible by your business’s payroll personnel over the internet.

Alternatively, a business can outsource its payroll processing activities to an outsourced payroll service supplier:

  • Part managed payroll services: A business chooses which payroll processes that it outsources to a managed payroll services supplier and which it continues to manage in-house. Note: Not all outsourced managed payroll service suppliers offer part managed services.
  • Bureau payroll services: The term ‘bureau’ is sometimes confusingly used by payroll service suppliers or commentators to describe fully managed payroll services, part managed payroll services and other organisations, such as accountancy practices, that offer payroll services. In our articles we have chosen not to use the term to avoid confusion.
  • Accountancy practices: Many accountancy practices offer a payroll service to their clients alongside their core accounting and tax advisory services.

We explore each of the above options in more detail below.

Payroll software

HMRC and other free payroll software

Small businesses with less than 10 employees can use free payroll software from either HMRC (using its ‘Basic PAYE Tools’ software) or from a limited number of other software suppliers that provide free payroll software for an unlimited time.

Free payroll software can be a viable option for small businesses with very tight budgets but it comes subject to a range of limitations:

  • Free software is limited to small businesses with at most 10 employees and in some cases a much lower number of staff (e.g. 2-3 employees).
  • Your business will need to have the payroll knowledge and expertise in-house to use the free payroll software properly.
  • Free software has limited features and functionality e.g. Basic PAYE Tools cannot produce payslips nor does it have auto-enrolment functionality.
  • This type of software may not be as reliable as commercial payroll software.
  • In certain cases, the supplier provides more limited customer support than for paid versions.

Free software is also often offered by commercial payroll software suppliers for an introductory trial period with the business migrating onto a paid plan at the end of that period.

HMRC’s Basic PAYE Tools can be found at https://www.gov.uk/basic-paye-tools and HMRC’s list of recognised free payroll software can be found at https://www.gov.uk/payroll-software/free-software.

Commercial on-premise payroll software

Payroll software can be installed on your business’s IT network and maintained by your IT team or external IT contractors. This type of software is known as on-premise or desktop payroll software and has been the conventional way for businesses to run their payroll processing over many years.

On-premise payroll software tends to be sold on an annual licence basis and costs will depend on the number of staff that your business employs, the number of legal companies that those employees are employed by, and the features & functionality provided by the software.

Additionally, on-premise payroll software costs may also include the hardware costs of running an in-house payroll server, software installation and configuration costs, and ongoing payroll software maintenance and upgrade costs.

Commercial online payroll software

In recent years online or cloud payroll software has become increasingly popular. This is software that runs on the payroll software supplier’s own servers in its data centre and is accessed by your business’s payroll personnel over the internet via a web-based application.

As the online payroll software runs ‘in the cloud’ it is accessible on a 24/7 basis, from multiple locations (with internet access) and from mobile devices. Data held in the online software is automatically backed-up and the payroll software will be automatically updated to reflect any relevant changes to payroll legislation.

Online payroll software is usually charged on a monthly basis based on the number of employees covered and features provided.

Whether you choose an on-premise or online payroll software solution the software will need to be operated by your business’s payroll team or other of your personnel with payroll knowledge and expertise.

HMRC’s list of recognised paid-for payroll software can be found at https://www.gov.uk/payroll-software/paid-for-software.

If you are interested in payroll software for your business read our article Guide to UK payroll software for further information.

Outsourced managed payroll services

Outsourcing has been a trend among large organisations for many years. However, over the last few years it has also become a much more cost-effective option for small businesses and even start ups, across a range of business services such as accounting and HR. This trend has been driven, to a large part, by increasing broadband penetration and innovation in cloud services leading to better internet connectivity and 24/7 responsiveness.

In addition, the added regulatory burden and operational complexity resulting from recent RTI, auto-enrolment and (GDPR) data protection legislation has made outsourced payroll services a much more appealing, and cost-effective, solution for businesses of all sizes.

A recent YouGov survey reported that payroll is the second most frequently outsourced service among UK businesses.

Fully managed payroll service

In the case of a fully managed payroll service, the entire payroll process is outsourced to, and carried out by, the managed payroll service supplier. Your business would need to provide the payroll service supplier with all employee data at the outset of the arrangement and, from then on, you only need to share any employee updates (e.g. new joiners, leavers, pay increases, bonuses) with the service supplier.

The managed payroll service supplier is responsible for all other aspects of the payroll function such as pay and tax calculations, generating payslips and other employee documents, making payments to employees, making HMRC filings, carrying out year end payroll filings, and record keeping. The payroll service supplier will produce regular, customised, reports for your business to review.

Your business would not need maintain payroll expertise in-house.

Fully managed payroll services are usually charged on a monthly basis calculated on the number of employees in the business, the frequency of payroll runs and the features provided by the payroll service supplier.

Part managed payroll service

With a part managed payroll service, you agree with the payroll service supplier which payroll processes your business retains in-house and which functions are outsourced to the payroll service supplier.

In some cases, this may be determined by the level of in-house payroll expertise that your business has, or wishes to have, or it may be driven by your wish to retain a level of control over employee data.

As an example, your business’s payroll personnel could carry out gross to net salary computations themselves and input that data into the payroll service supplier’s online payroll system with the payroll service supplier carrying out all other payroll processes (e.g. BACS payments, auto-enrolment, generating payslips and HMRC filing).

It is between you and payroll service supplier to agree the level of payroll service provided.

Part managed payroll services are charged in the same way as fully managed services subject to the number of payroll processes being managed by the outsourced payroll service supplier.

Payroll services provided by an accountancy practice

You could decide to use your accountant to manage your business’ payroll functions as part of a package with their other accounting and tax advisory services. However, there are a number of limitations with using an accountancy practice for payroll processing:

  • In many cases payroll is not a core competence of accountancy practices.
  • Many accountancy practices outsource their payroll service to a managed payroll service supplier.
  • The payroll service features may be more limited that dealing directly with a managed payroll service supplier.
  • The accountant will need to charge a margin on the service which can make their payroll service expensive.
  • Customer support may not be as responsive as dealing with the managed payroll service supplier directly.

If you are interested in an outsourced payroll service for your business read our article Guide to UK outsourced managed payroll services.

Payroll and other business systems

As a payroll service’s primary functions are to pay employees accurately and properly while applying UK employment, tax and accounting legislation correctly, there is a significant overlap with a business’s Human Resources and Finance functions.

As a result, in addition to being provided as a standalone package, payroll software and outsource payroll services are often offered:

  • As an optional add-on to other HR or finance software or services.
  • Integrated into combined HR and accounting software or services.
  • As a module within a much larger ‘enterprise’ service.

Payroll software and outsourced managed payroll service comparison

To help you decide on the right payroll system for your business we have compared payroll software and outsourced payroll services against the following criteria:

This table shows a comparison of on-premise payroll software, online payroll software, a fully managed payroll service and a part managed payroll service against a range of criteria.
  1. Part managed services vary according to the level of payroll processes retained in-house by a business and those processes outsourced to the payroll service supplier.
  2. Virtual Private Network.

You should note that in all of the payroll software and outsourced payroll service options discussed above, the legal responsibility for HMRC payments and filings always remains with your business.


  • Payroll software:
    • Free payroll software can be effective for managers of small businesses with very few employees, that have extremely tight budgets and who are prepared to take on the administrative burden of managing their payroll processes themselves.
    • Commercial payroll software can be effective for businesses that are large enough to afford the costs of, and can benefit from, having in-house payroll personnel.
      • On-premise payroll software is particularly well suited to businesses that wish to maintain complete control over their employee data and payroll processes.
      • Online payroll software is an excellent solution for those businesses wishing to retain their in-house payroll personnel and experience but benefit from the cost savings and ease of use of an online software solution.
  • Outsourced payroll services:
    • Fully managed payroll services are particularly effective for start ups and SMEs, that have little or no in-house payroll expertise and are looking for a cost-effective, scalable, payroll system. They are also becoming increasingly attractive and economic for larger businesses looking to outsource non-core support functions.
    • Part managed payroll services offer an excellent solution for businesses that wish to retain or build up their in-house payroll expertise while benefiting from the experience provided by the payroll service supplier’s team and the cost savings from utilising an outsourced service.

Determining your business’s payroll service needs

Choosing the right payroll software or outsourced payroll service will depend on a range of factors unique to your business which may include:

  • How many employees you have in the UK and other countries?
  • How your employee compensation is structured?
  • Your business’s growth plans – how many employees do you expect to employ in the near future?
  • The competence and experience of your existing payroll team?
  • The features and functionality that your business needs from its payroll service?
  • What other systems (e.g. HR and finance) do you need the payroll service to integrate with?
  • How much control does your business need to have over its employee data and payroll processes?
  • What training will your personnel need to use the payroll service effectively?
  • Your budget?

Once you have determined your business’s key requirements you can then compare the different payroll systems in the market.

Assessing the right payroll services supplier for your business

We have set out below a set of criteria to help you select the right payroll system supplier for your business:

Features & functionality

  • Core payroll software/service functionality:
    • Has it been recognised by the HMRC?
    • Is it BACS approved (e.g. in the case of an outsourced payroll service, so that it can make safe and efficient salary payments to employees)?
    • Does it include auto enrolment functionality?
    • Is it GDPR compliant?
    • Does it have industry standard security measures?
    • Does it provide P11D functionality?
    • Does it include CIS (Construction Industry Scheme) functionality (if relevant to your business)?
  • What other features and functionality are provided e.g. an employee self-service portal? Online v. offline accessibility?

Installation & use

  • How easy is it to install/set up the payroll software or service?
  • What is its data conversion functionality to ensure that existing information can be seamlessly transferred into the new software or onto the managed service supplier’s platform?
  • How easy is it to integrate with your business’s other systems (e.g. HR and finance)?
  • What is the user interface like?
  • How scalable is it so that it can expand as your business grows and hires more employees?


  • What upfront installation/set up costs are there?
  • What are the monthly running costs e.g. license fees, maintenance, monthly charges?
  • How transparent is the charging model?
  • What in-house payroll personnel will you require?

Payroll supplier track record

  • What level and quality of customer support is provided e.g. is it 24/7, does is include detailed tax guidance?
  • What kind of employee training is offered?
  • What client reviews has the organisation received? Do they provide case studies? Will they offer customer references?
  • Are there any onerous contractual terms?

If you are interested in payroll software for your business read our article Guide to UK payroll software.

If you are interested in an outsourced managed payroll service for your business read our article Guide to UK outsourced managed payroll services.

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