Benefits paid under a group income protection policy are taxed as employment income to the extent the employer funded the premiums, and go through PAYE with Class 1 National Insurance. The part funded by the employee out of taxed pay is tax free. Premiums the employer pays are not a taxable benefit for the employee, unless the cover is provided through salary sacrifice, and salary given up to fund the cover counts as an employer contribution, not an employee one.

How does group income protection work?

Group income protection, sometimes called permanent health insurance or sick pay insurance, is a policy the employer takes out to pay a proportion of an employee’s salary during long term sickness, usually after a deferred period. Because the employer holds the contract with the insurer, the employer is the insured person, not the employee. That single fact drives most of the tax treatment.

HMRC’s Employment Income Manual at EIM06410 describes two common structures. In the first, the insurer pays the employer, who then pays sick pay to the employee through payroll. HMRC treats this as merely a funding arrangement and the sick pay is earnings under section 62 of the Income Tax (Earnings and Pensions) Act 2003. In the second, the insurer pays the employee directly, and section 221 ITEPA 2003 provides the charge instead. HMRC says the amount taxed is the same either way. Where an insurer pays sick pay itself, the PAYE Manual at PAYE72070 says the third party should operate PAYE in the same way as on wages.

Is the premium a taxable benefit for the employee?

Normally not. Section 202(1)(c) ITEPA 2003, explained at EIM21820, says that where sick pay is provided under arrangements with an insurer, the right to receive sick pay is not a benefit chargeable on directors and employees. So the employer can pay group income protection premiums without a P11D entry or Class 1A National Insurance, and HMRC’s Insurance Policyholder Taxation Manual at IPTM6120 confirms that an employer’s scheme is not a taxable benefit unless it is provided under optional remuneration arrangements.

The exception is salary sacrifice. Since 6 April 2017, section 202(1A) removes the exclusion where the right to sick pay is provided through an optional remuneration arrangement. EIM06471 says the employee is then taxed each year on the relevant amount, which is the greater of the cost of the benefit (the additional premium for that employee) and the salary given up. See our page on salary sacrifice schemes for how these arrangements work generally.

How are benefits taxed when the employer pays all the premiums?

All of the benefit is employment income. It goes through PAYE using the employee’s tax code, alongside any Statutory Sick Pay, which is also taxable. EIM06410 adds that the sick pay is taxable whether it is paid to the employee or to a member of their family or household.

For National Insurance, section 4(1)(b) of the Social Security Contributions and Benefits Act 1992 treats a sickness payment as earnings if it is paid under arrangements made by the employer and the employer contributes to its cost. HMRC’s National Insurance Manual at NIM02345 tells employers to include such payments in gross pay for Class 1 where the illness began before the contract of employment ended and the employer contributes to the scheme.

What if employees pay part of the premium?

Only the part of the benefit attributable to the employer’s contributions is taxed as employment income. Section 221 ITEPA 2003 handles this, and EIM06430 sets out the practical method: the taxable proportion is the employer’s contribution divided by the total of employer and employee contributions, measured over the same period. If the contributions change, the proportion is recalculated from the date of change. Where contributions vary, HMRC accepts a proportion based on the scheme’s previous year, recalculated after each scheme year end.

The employee’s share is tax free under section 743 of the Income Tax (Trading and Other Income) Act 2005, which extends the exemption in section 735 to policies taken out by one person for the benefit of another. IPTM6120 says this applies to a just and reasonable part of the payments, in proportion to the premiums the employee paid. Employee contributions must come out of taxed pay. EIM06420 says they do not attract tax relief and should be made from income after tax and National Insurance.

The same split applies to National Insurance. NIM02345 gives the example of an employer paying £20 a month and an employee £10 a month: Class 1 is due on only two thirds of the resulting sick pay.

Worked example

Illustration only. An employer pays £30 a month towards each employee’s cover and deducts £10 a month from each employee’s net pay. An employee on long term sick leave receives benefit of £2,000 a month.

  • Employer share: £30 divided by £40 is 75%.
  • £1,500 a month is employment income, taxed through PAYE and subject to Class 1 National Insurance.
  • £500 a month is tax free and outside National Insurance.

If the £10 had been taken by salary sacrifice instead of from net pay, the whole £2,000 would be taxable, because sacrificed salary is an employer contribution.

Why does salary sacrifice change the position?

EIM06470 explains that on 15 October 2019 HMRC told the Association of British Insurers that salary sacrificed for group income protection could count as employee contributions. HMRC now says that guidance was incorrect. IPTM6120 states that amounts funded by salary sacrifice do not qualify as employee contributions, because the employee is no longer entitled to the salary given up, so the employer is funding the cover.

HMRC has given limited protection. It will not revisit the treatment of sick pay paid before 31 December 2023 where the employer relied on the 2019 guidance, and it accepts that sick pay relating to salary sacrificed between 15 October 2019 and 31 December 2023 may continue to be taxed under the old guidance. EIM06474 sets out when that applies. Schemes set up or changed after that window should assume the full benefit is taxable.

What about a personal income protection policy?

A policy an individual buys for themselves is treated differently. IPTM6110 says section 735 ITTOIA 2005 exempts payments where the insured person did not get income tax relief on the premiums, the policy covers a qualifying health or employment risk, the payments are made during the qualifying period, and the policy is genuine arm’s length insurance. There is no limit on the amount that can be received tax free.

For the self employed, the Business Income Manual at BIM45560 says premiums a sole trader or partner pays for their own sickness cover are not deductible from trading profits, and the benefits are not trading income. This is the trade off: no relief going in, no tax coming out. Our page on income that is tax free covers other exemptions of this kind.

What happens if the employee leaves?

An employee may retire on ill health grounds while benefits continue. IPTM6125 says that once employment ends, any part of the payments that is not exempt is taxed as an annual payment rather than employment income. If a replacement policy is issued under the terms of the employer’s policy, the two are treated as one for the exemption. NIM02345 says sick pay for a period of illness after the contract of service has ended is not included in gross pay for National Insurance.

What mistakes come up most often?

  • Paying benefit to the employee gross because it came from an insurer. PAYE72070 says a third party paying sick pay should operate PAYE, and employer funded benefit is employment income.
  • Reporting employer group income protection premiums on a P11D. Under section 202(1)(c) they are not a benefit unless provided by salary sacrifice. See our guide to benefits in kind and the P11D for what does belong there.
  • Treating salary sacrificed contributions as employee contributions, contrary to EIM06470 and IPTM6120.
  • Applying a fixed tax free proportion for years after the contribution split has changed.
  • Forgetting that benefits paid after an employee leaves may need different handling.

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Reviewed by Christine Anderson, Broker, Solar Protect. Last reviewed 8 October 2026. Part of Accountapedia, the Solar Protect guide to UK tax and accounting. This page is general information, not personalised advice.