Every government owes its citizens the responsibility of providing basic infrastructure like electricity, affordable housing, a functioning healthcare system, a transportation system, etc.
In the same way, citizens owe the government a piece of their earnings to support the delivery of these responsibilities. This is a compulsory, legally imposed obligation. For employees, the well-known tax obligation is the Personal Income Tax (PIT), called the Pay As You Earn (PAYE) tax in Nigeria.
Paying tax is unavoidable, but the Nigerian tax law makes some provisions that allow taxpayers to legally reduce the amount they pay. A good understanding of these provisions can help you maximise the amount your employees take home every month.`
The law requires employees to pay tax based on residency. That means an employee will be a tax resident if:
- The employee works fully or on contract in Nigeria or
- The employer is in Nigeria or if the employer has a fixed base in Nigeria.
Expatriates are not exempted from PAYE tax in Nigeria. Expatriates may be liable to tax in Nigeria unless:
- The employee stayed less than six months in any period of one year
- The employer is not resident in Nigeria
- The non-resident employer bears the employee cost
- The employee is a tax resident in another country
How to Legally Reduce PAYE Tax in Nigeria
Below are some tips on reducing PAYE tax in Nigeria:
1. Leveraging tax relief from life insurance
With life insurance, the contributor pays a premium to the insurance company and secures a sum (known as the death benefits) paid to their beneficiaries in the event of their death.
If an employee purchases a life insurance plan, the premium paid will serve as tax relief when PAYE is being calculated in the following year. Of course, this will apply only if your employees declare it, so you should encourage them to take life insurance (for the sake of their beneficiaries and the tax relief opportunities), as well as declare it.
With life insurance, your employees can transfer a policy’s death benefit income-tax-free to beneficiaries since the death benefits are non-taxable.
2. Increase pension contribution
The Pension Act signed on July 1, 2014, provides that employers with at least 15 employees must participate in a contributory pension scheme for their employees.
The minimum contribution under the Act is 18% of the monthly pay (a minimum donation of 10% by the employer and 8% by the employee).
However, some employers may choose to bear the entire burden of managing pension. Since mandatory contributions by employers and employees are non-taxable, doing this will help make about 18% – 20% of employees’ gross salary tax-free.
While pension is usually calculated on the employee’s basic, housing, and transportation income, some organisations choose to apply it to their employee’s entire income. This helps to reduce the total taxable income and ensures that the employee has a little more put away for retirement.
The downside of this is that the employer’s 10% contribution would also increase as it’s applied to the employee’s entire salary.
Another good way to cut down PAYE tax is through additional voluntary contributions (AVC). This is an additional contribution you can recommend for your staff as a tax-efficient method of boosting their retirement savings. With less taxable income available, employees will pay less PAYE on their salary and have more put away for the future.
3. Participate in the National Health Insurance Scheme
The National Health Insurance Scheme (NHIS) provides easy access to healthcare for all Nigerians at an affordable cost through its different health insurance plans.
Contributors can enjoy health care services from the pool of funds created as a form of social health insurance. It is mandatory for employers with ten or more employees.
An employer is required to contribute 10% of the monthly basic salary of an employee to NHIS, while the employee contributes 5%. The health insurance should cover the contributor, their spouse and four biological children under 18.
An employee’s NHIS contribution is non-taxable, so participating in the scheme helps reduce the total taxable income while providing the employee and their family with a necessary social service.
4. Participate in the National Housing Fund contribution
The National Housing Fund (NHF) offers low-interest-rate loans to Nigerians for developing, buying or renovating their homes. Contributors to the fund can access long term loans from mortgage institutions.
Employers are mandated to deduct an NHF levy of 2.5% of employees’ monthly basic salary and remit the amount to the Federal Mortgage Bank of Nigeria within one month after the deduction of NHF.
Doing this will help your employees to gain access to low-interest housing loans. Additionally, the 2.5% NHF contribution is also non-taxable, helping to reduce the PAYE tax.
All employers are obligated to register employees with the NHF, with the only exemptions being expatriates and employees with an annual income of below ₦3,000. While penalties may apply for non-compliant employers, noncompliance with NHIF will affect your employees by bumping up their PAYE tax.
5. Maximise employees’ gratuities
As you may know, gratuities are a ‘thank you’ benefit given by employers to employees. It’s not paid as a part of the regular monthly salary, but at the end of their service years.
The law permits employees to enjoy tax-free gratuity, so your organisation can help employees maximise this. A part of your employees’ earnings can be channeled into their gratuity as another way to reduce their PAYE tax.
6. Apply Consolidated Relief Allowance (CRA)
The Consolidated Relief Allowance (CRA) is a form of relief granted to taxpayers to reduce their tax burden.
With CRA, tax-free contributions like the NHIS and NHF contributions will be deducted from the employee’s income, as well as a Consolidated Relief Allowance of N200,000 or 1% (whichever is higher) plus 20% of the gross income are deducted from the total income to arrive at the employee’s taxable income.
Before the Finance Act 2020, the PIT (Amendment) Act defined gross income as salaries, wages, allowances (including benefits in kind), gratuities, superannuation and any other income gotten through employment.
The FA 2020 now defines gross income as gross emoluments minus all statutory reliefs. Applying the new definition of gross income has reduced employees’ taxable income.
In summary, increasing tax-free elements can help reduce your employees’ taxable income. At the same time, doing this could reduce your employees’ net pay in total, even though it offers them more long-term benefits.
Whatever pay restructuring your organisation adopts should be done carefully considering the employees’ welfare and total tax efficiency.
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