25/08/2015

By Neil Lagden, Head of Bond Payroll Services


Employee wages have taken centre stage following George Osborne’s first post-election budget that heralded the arrival of the National Living Wage. Coming at a time when annual earnings have risen at their fastest rate for five years — 3.2% annual rise to June 2015 — the announcement of a new compulsory living wage of £7.20 an hour for employees under 25, rising to £9 per hour by 2020, has sent shock waves through UK companies.

In addition to the impact on bottom line costs, at a time of higher employment and the need to minimise employee churn, companies are also wondering whether enforced wage rises have actually removed opportunities for more flexible pay and benefits packages that could be key employee retention strategies.

As companies begin to analyse the potential costs, assess the options for employing younger staff, reconsider flexible and part time working, even apprenticeships, the role of payroll has never been more important. Not only do these changes place a new burden on already stretched payroll teams but the pressure is on to deliver in depth financial payroll reporting to support essential, strategic HR planning.

National Living Wage

Organisations were already considering the implications of the new minimum wage (NMW), due to come into play in October 2015, when the Chancellor changed the game by announcing the introduction of the Living Wage for all employees under 25. Now businesses need to understand the bottom line costs of wages rising not just 20 pence to £6.70 per hour, but actually up 70 pence to the £7.20 per hour Living Wage.

When industry figures show mixed reactions — with the CBI calling it a ‘big gamble’, while Simon Walker, Director General of the Institute of Directors (IoD) said it was time for employers to increase wages — it is no wonder businesses are confused. Swedish retailer Ikea has stolen a march by announcing it will pay staff above the new National Living Wage from next year — setting the rate at a minimum £7.85 an hour, £9.15 for employees in London. Yet there is a fear that other businesses, particularly smaller organisations already struggling with the additional costs associated with Shared Parental Leave (SPL) and Auto-Enrolment (AE), simply will not be able to afford the change.

There is also some confusion in terminology and timing. The existing minimum wage for those over 21 is £6.50 per hour. The new compulsory living wage affects workers over 25. Companies now have to consider the minimum wage, (official) living wage, (new) living wage, and London living wage — with different rates and relating to different age groups. At a time when companies were already forecasting a 3% annual wage increase in 2015, according to a Salary Trends survey by ECA International, it clearly essential that organisations get a quick handle on the bottom line implications of the changing government policy.

Understanding Costs

This is not an issue any organisation can afford to ignore — especially given HMRC’s increasing determination to improve compliance and the Department for Business, Innovation and Skills’ willingness to ‘name and shame’ those businesses who have failed to pay their workers the National Minimum Wage. Since October 2013, 285 employers have been named and shamed, with total payment arrears of over £788,000 and penalties in excess of £325,000.

An assessment of the immediate impact on the wages bill may well be the first step for employers. That is just the start of the reporting burden on payroll teams. Payroll may additionally need to deliver reports with full age break down to understand the different rates applicable to the different age groups. From a planning viewpoint there may also be a need to project ahead if the employee base is predominantly young, to track the rise in wages as employees turn 25. Companies do not want theshock of a large increase in the wage bill and potential cash flow problems just on the basis of staff having a birthday!

The potential business costs extend beyond the additional hourly rate. What are the pensions implications of rising employee wages? While the UK currently lags behind Europe in pensions provision, the government continues to push hard to address this position. Increasing hourly rates to the Living Wage will be very likely to increase the number of employees now eligible for AE.

It is essential for companies to determine the additional number of employees that may now reach the AE threshold and assess the financial impact of these additional employee contributions both this year and into the future as contribution levels rise.

HR Strategy

What are the options for companies facing an escalating AE contribution? One approach would be to reduce individual employee hours and opt for higher numbers of part time employees. While this avoids the potential AE cost by limiting the number that reach the threshold, what will be the additional overhead both in recruitment costs and payroll processing overhead of the extra employees? Would it make more sense to retain core customer facing employees and look again at outsourcing back office functions, such as payroll and HR?

It is also worth looking again at the strategy for recruiting younger employees. Should companies actively look to recruit under 25s in order to avoid the hike in hourly rate? What about side-stepping the Living Wage by increasing apprenticeships? This is potentially positive news for a generation that endured the brunt of recessionary unemployment and offers firm employment schemes and trade education, but is this the best financial option for the business? Organisations need to understand how much additional overhead is associated with managing apprenticeships — and what additional business value can be achieved.

Certainly one of the considerations is employee retention and reducing expensive churn. Many organisations have been looking beyond the basic pay towards additional benefits - such as child care or flexible working — in order to recruit and retain employees. The issue now is whether these options are still viable given the higher basic hourly wage.

Conclusion

The wages debate is probably long overdue. However, one point is clear: organisations cannot afford to make knee jerk decisions. In a time of rising employment, effective employee management and retention is business critical. Organisations need trusted, accurate insight into wage costs — and the ability to ask ‘what if’ questions regarding the financial impact of different strategies.

These decisions are far from simple, and there will be growing pressure on payroll teams to come up with complex, in depth analysis to enable business owners to make some critical decisions. When payroll teams are already overwhelmed by the challenges of new legislation including AE and SPL, is the resource available to deliver this required insight?