You've hired your first employee. Maybe it's a junior designer to handle the overflow work you've been doing yourself. Or a part-time account manager to free you up for new business. Either way, you now need to set up PAYE. And if you've never done it before, it can feel like a maze of forms, deadlines, and acronyms.

This guide walks you through exactly what you need to do to set up PAYE for your first agency hire. I'll cover registration, payroll software, RTI reporting, and the ongoing obligations you cannot ignore. By the end, you'll know exactly what to do before your new starter's first day.

What Is PAYE and Why Does It Matter for Your Agency?

PAYE stands for Pay As You Earn. It's the system HMRC uses to collect income tax and National Insurance contributions directly from employees' wages. As an employer, you are legally responsible for deducting the correct amounts from each payslip and paying them to HMRC.

If you've been running your agency as a sole trader or through a limited company with just yourself as director, you may have avoided PAYE entirely. Many agency founders pay themselves a small salary plus dividends, which means they never need to run payroll for themselves. But the moment you hire someone who is not a director, you must register as an employer and operate PAYE.

The penalties for not doing this are real. HMRC can charge you for late registration, late filing of RTI returns, and late payment of tax. A 12-person digital agency billing £800k per year that forgets to register before their first employee starts could face fines of hundreds of pounds before they've even issued a single payslip.

Step 1: Register as an Employer with HMRC

You must register before your employee's first payday. Not on the day they start. Not a week after. Before the first payday.

Registration is done online through your HMRC business tax account. You will need your company's Unique Taxpayer Reference (UTR) and your Corporation Tax UTR. The process takes about 15 minutes if you have those to hand.

Once registered, HMRC will send you an employer reference number. This is typically two letters followed by seven digits, like AB1234567. You will also get an Accounts Office reference number, which is used when you send payments to HMRC.

Register at least two weeks before your employee's first payday. HMRC can take that long to process the registration and send you the references. If you leave it to the last minute, you risk not having your payroll set up in time.

Step 2: Choose Your Payroll Software

You cannot run PAYE manually anymore. HMRC requires all employers to submit payroll data in real time using HMRC-recognised payroll software. This is called Real Time Information (RTI).

Your options are:

  • Free payroll software from HMRC: The Basic PAYE Tools (BPT) is free and works for small employers. It handles RTI submissions, calculates tax and NI, and produces payslips. It is basic but functional. For a single employee on a straightforward salary, it will do the job.
  • Commercial payroll software: Products like Xero Payroll, QuickBooks Payroll, FreeAgent Payroll, or Sage Payroll are more polished. They integrate with your accounting software, automate RTI submissions, and handle more complex scenarios like student loans, statutory pay, and pension auto-enrolment.
  • Outsource to your accountant: Many agency founders choose to have their accountant run payroll. At Agency Founder Finance, we offer payroll services as part of our monthly packages. This removes the administrative burden entirely and ensures compliance.

For most agency founders hiring their first employee, I recommend using Xero Payroll if you already use Xero for bookkeeping. It syncs directly, so your payroll costs flow straight into your management accounts. If you use FreeAgent, the same logic applies.

Step 3: Gather Your Employee's Information

Before you can run their first payroll, you need:

  • Full legal name and date of birth
  • National Insurance number
  • Start date
  • Contractual hours and salary
  • P45 from their previous employer (if they have one)

If your employee does not have a P45, you use a starter checklist instead. This is a form you complete with the employee to determine their tax code and student loan status. Most payroll software will walk you through this during setup.

If the employee does not know their National Insurance number, tell them to check their payslip from a previous job, their P60, or their personal tax account on GOV.UK. You can run payroll without it initially, but you must obtain it and update the record within 60 days.

Step 4: Determine the Correct Tax Code

HMRC tells you which tax code to use. When you submit your first Full Payment Submission (FPS) for the employee, HMRC will respond with the correct code. Most new employees will be on 1257L, which gives them the standard personal allowance of £12,570.

Do not guess the tax code. If you use the wrong code, you will under- or over-deduct tax, and the employee will need to claim a refund from HMRC. This creates unnecessary hassle for everyone.

Some common tax codes you may encounter:

  • 1257L: Standard code for most employees
  • BR: All income taxed at basic rate (used for second jobs)
  • D0: All income taxed at higher rate
  • NT: No tax to be deducted (rare, usually for offshore employees)

Step 5: Run Your First Payroll and Submit RTI

Your first payroll run is where everything comes together. Here is what happens:

You enter the employee's gross pay for the period. The software calculates income tax, employee National Insurance, and employer National Insurance. It also calculates any pension contributions if you have auto-enrolment set up.

You then submit an FPS to HMRC. This must be done on or before the day you pay the employee. Not the day after. Not the week after. On or before payday.

If you pay the employee on the last Friday of the month, you must submit the FPS by that Friday. HMRC uses this data to update the employee's tax code and to track their earnings for things like student loan repayments and Universal Credit.

Late submission of an FPS triggers a penalty. The first late submission may get a warning, but repeat offences attract fines starting at £100 per month per 50 employees. For a single employee, the fine is calculated on a sliding scale, but it is still a cost you do not need.

Step 6: Pay HMRC What You Owe

You must pay the tax and National Insurance you deducted to HMRC. This is done monthly or quarterly, depending on your total PAYE bill.

If your average monthly PAYE bill is less than £1,500, you can pay quarterly. Otherwise, you pay monthly. Payment is due by the 22nd of the following month (or the 19th if you pay by post, which nobody should do in 2025).

You pay HMRC through your online bank account using the Accounts Office reference number. Most payroll software will generate a payment schedule showing exactly what is due and when.

Do not miss these deadlines. Late payment interest is charged at 7.25% (as of April 2025). HMRC also charges penalties for persistent lateness.

Step 7: Set Up Workplace Pension Auto-Enrolment

If your employee is aged between 22 and state pension age and earns more than £10,000 per year, you must automatically enrol them into a workplace pension scheme. This is not optional.

You must contribute at least 3% of the employee's qualifying earnings. The employee contributes at least 5%. Total minimum contribution is 8%.

You need to choose a pension provider. Popular options for small agencies include NEST, The People's Pension, and Smart Pension. Most payroll software integrates with at least one of these providers, making the setup straightforward.

You must also complete a declaration of compliance with The Pensions Regulator within five months of your staging date. Your staging date is based on the size of your PAYE scheme. For a first employee, it will be triggered by their start date.

Ignore this and you face fines from The Pensions Regulator. They do issue them. A creative agency in Bristol Harbourside was fined £400 last year for failing to declare compliance. Do not be that agency.

Ongoing Obligations: What You Must Do Every Month

Once PAYE is set up, you have recurring responsibilities:

  • Run payroll each month and submit FPS on or before payday
  • Pay HMRC by the 22nd of the following month
  • Issue payslips to the employee on or before payday
  • Submit an Employer Payment Summary (EPS) if you claim any deductions (like statutory pay recoveries or the Employment Allowance)
  • File a P60 by 31 May each year, showing the employee's total pay and deductions for the tax year
  • File a P11D by 6 July each year if you provide any benefits in kind (like private medical insurance or a company car)

If you only have one employee and their pay is consistent, this is not onerous. It takes about 15 minutes per month if you do it yourself. But it is easy to forget, especially when you are busy running your agency.

Common Mistakes Agency Founders Make

I see the same errors repeatedly with new employers:

  • Registering too late. They hire someone, the person starts, and then they try to register. HMRC takes time to process the registration. The first payslip is delayed, and the employee gets paid late. That is a fast way to lose a good hire.
  • Using the wrong tax code. They assume 1257L for everyone. But if the employee has a second job or owes tax from a previous year, the code will be different. Always use the code HMRC provides.
  • Forgetting auto-enrolment. They set up PAYE but ignore the pension. The Pensions Regulator sends a letter. Then another. Then a fine.
  • Not submitting RTI on time. They run payroll but forget to submit the FPS. Or they submit it a day late. HMRC tracks this.
  • Paying HMRC late. The 22nd of the month comes around quickly. Set up a direct debit if your payroll software supports it.

Should You Run Payroll Yourself or Outsource It?

For a single employee on a fixed salary with no benefits, running payroll yourself using HMRC's Basic PAYE Tools is manageable. It costs nothing and takes minimal time each month.

But as soon as you have more than one employee, or if you offer benefits like private medical insurance or a company car, or if you have employees on variable hours, the complexity increases. At that point, using commercial payroll software or outsourcing to your accountant makes more sense.

At Agency Founder Finance, we handle payroll for many of our agency clients. It removes the administrative burden and ensures compliance. You focus on running your agency, and we make sure HMRC gets what they need when they need it. You can learn more about our services to see if that fits your situation.

What About Directors Who Pay Themselves a Salary?

If you are a director of your own limited company and you pay yourself a salary, you are already operating PAYE. You will have registered as an employer when you set up your company. Adding your first employee means adding them to your existing payroll scheme.

If you have been paying yourself through dividends only and have never registered for PAYE, then the steps above apply to you. You must register before your employee's first payday.

Many agency founders in this situation ask whether they should start paying themselves a salary too. The answer depends on your personal tax position. A salary of £12,570 per year is typically tax-efficient because it uses your personal allowance and counts as a qualifying year for state pension. But it also triggers employer NI at 13.8% on anything above the secondary threshold. For a detailed breakdown, read our guide on salary and dividends for agency founders.

Final Checklist Before Your Employee's First Day

Use this list to make sure you are ready:

  • [ ] Registered as an employer with HMRC (allow 2 weeks)
  • [ ] Received your employer reference number and Accounts Office reference
  • [ ] Chosen and set up payroll software
  • [ ] Obtained employee's P45 or completed starter checklist
  • [ ] Confirmed tax code with HMRC
  • [ ] Set up workplace pension scheme and completed declaration of compliance
  • [ ] Know your first payday date and have submitted your first FPS on time
  • [ ] Set up payment method to HMRC (direct debit or manual bank transfer)

If any of these steps feel unclear, speak to your accountant before the employee starts. The cost of a 30-minute call is tiny compared to the cost of correcting a PAYE error six months later.

If you work with a marketing agency, digital agency, or any other agency type, the principles are identical. PAYE does not care what kind of agency you run. It cares about one thing: that you deduct the right tax and pay it on time.

Get it right from day one, and PAYE becomes a routine admin task. Get it wrong, and it becomes a distraction you do not need.