When your employer pays the premium on your income protection policy, HMRC treats that premium as an income protection benefit in kind: the cost is added to your taxable earnings for the year, and if you ever claim on the policy the monthly payments are taxed as employment income too. You never see the premium money, but you pay income tax on it all the same.
Why the Premium Is Taxed on You
Income protection insurance, sometimes called permanent health insurance, replaces part of your salary if long-term illness or injury stops you working. When the employer pays for it, the economic benefit lands on you, so HMRC treats the cost as part of your earnings for the tax year it is provided.1Legislation.gov.uk. Income Tax (Earnings and Pensions) Act 2003, Part 3, Chapter 10
The figure used is the “cash equivalent” of the benefit, which is simply what your employer pays the insurer during the year. If the premium is £1,200, then £1,200 is added to your taxable income. There is no deduction or exemption for the fact that the money went to an insurer rather than into your account.
How the Tax Gets Collected
The tax reaches HMRC through one of two routes.
The usual route is a PAYE tax code adjustment. After your employer reports the benefit, HMRC reduces your tax-free allowance for the following year by the benefit value, which pulls slightly more tax from each pay packet across the year.2GOV.UK. Income Tax Rates and Personal Allowances The adjustment is automatic; your job is to check it looks right when the coding notice lands.
If you file a Self Assessment return, you declare the benefit value yourself and pay the resulting tax directly to HMRC after the tax year ends.
Either way, the amount you pay depends on your marginal rate. For 2025–26, that is 20% for basic-rate taxpayers, 40% for higher-rate taxpayers, and 45% for additional-rate taxpayers.2GOV.UK. Income Tax Rates and Personal Allowances On a £1,200 premium, a basic-rate taxpayer owes an extra £240 of income tax for the year. A higher-rate taxpayer owes £480. Your employer paid the insurer, but the income tax bill is yours.
One piece of good news on the employer side flows through to you indirectly: the employer pays Class 1A National Insurance on the benefit value at 15% for 2025–26,3GOV.UK. National Insurance Rates and Categories but that NIC charge is an employer-only cost. Nothing comes out of your pay for it.
What Happens If You Make a Claim
If you go on long-term sick leave and the policy pays out, those monthly payments are taxable as employment income. That is the trade-off for employer-funded cover: because the employer paid the premiums, HMRC treats the benefit payments much like salary and applies PAYE at your marginal rate.4GOV.UK. Insurance Policyholder Taxation Manual – IPTM6120
Whoever makes the payment, whether the insurer or an employee benefit trust, operates PAYE and deducts income tax before the money reaches you. Your personal allowance still applies, so the first £12,570 of your total income for the year is tax-free, and the rest is taxed at the standard bands.
There is one meaningful saving compared with ordinary salary: payments under employer-arranged schemes are generally not subject to employee National Insurance. You still pay income tax, but you keep a larger share of each payment than you would from wages of the same amount.
The Salary Sacrifice Trap
Some employers arrange income protection through salary sacrifice, where you give up part of your gross pay in exchange for the cover. These are Optional Remuneration Arrangements in HMRC’s terminology, and they do not work the way many employees assume.
Under the OpRA rules, the taxable benefit value is the premium cost or the salary you gave up, whichever is higher.5Legislation.gov.uk. Income Tax (Earnings and Pensions) Act 2003, Part 3, Chapter 10 – Section 203A Salary sacrifice therefore does not escape the tax charge on the premium. And because the sacrificed salary still counts as employer-funded, any payments you later receive are taxable as earnings too. You do not get the tax-free payout that comes with paying the premium out of your own post-tax pay.
It is worth being clear-eyed about this. Salary sacrifice for income protection looks like you are paying for the cover yourself, but HMRC does not see it that way. If a tax-free payout matters to you, the premium has to come from money that has already been through income tax and National Insurance.
When Paying for the Policy Yourself Changes the Answer
The alternative to the benefit-in-kind structure is paying the premium yourself, from net pay. That removes the benefit in kind entirely: nothing on a P11D, no tax code adjustment, no NIC charge for the employer.
You get no tax relief on the premiums. The payoff comes if you claim. Payments from an income protection policy are exempt from income tax where the premiums were paid from taxed income and the policy meets the conditions in the legislation about the type of risk covered.6Legislation.gov.uk. Income Tax (Trading and Other Income) Act 2005, Section 735 There is no cap on the amount that can be received tax-free.7GOV.UK. Insurance Policyholder Taxation Manual – IPTM6110
Where you and your employer share the cost of a single policy, any payout is split in the same proportions. The share attributable to the employer’s contribution is taxable as earnings; the share attributable to your after-tax contribution is tax-free.4GOV.UK. Insurance Policyholder Taxation Manual – IPTM6120
Which Arrangement Works Better for You
The trade-off is clean. With employer-paid cover, both the premium and the eventual payout are taxed. With a policy you pay for personally, the premium comes from after-tax income but the payout is tax-free. The question is which side of that equation costs you more.
Employer-paid cover is cheaper up front because your employer absorbs the premium. Your only cost is the income tax on the benefit in kind, which on a typical group policy premium might run to a few hundred pounds a year. If you never claim, you have had cheap cover. If you do claim, every monthly payment is reduced by income tax, and over years of incapacity that reduction adds up.
A policy you fund yourself costs you the full premium every month with no tax break. But if you claim, every penny of the payout is yours. For someone facing years of reduced earnings, the certainty of a full, untaxed payment can be worth far more than the premiums paid along the way.
Your marginal rate drives the maths. A higher-rate taxpayer loses 40% of each employer-funded payout to income tax, which makes the personally funded route more attractive despite the up-front cost. A basic-rate taxpayer loses 20%, which may be tolerable in exchange for the convenience and the employer subsidy. The calculation also shifts with the rate you would actually pay while on claim: if a long absence drops your total income into a lower band, the tax hit shrinks accordingly.
Some employers offer a gross-up arrangement as a middle path. The employer adds a small taxable amount to your pay to cover the income tax on the premium, then pays the premium itself. Because the premium cost has effectively been run through payroll and taxed, resulting payouts can qualify as tax-free. If your employer offers this, it combines the convenience of employer-funded cover with the tax-free payout of an individual policy. It is worth asking whether the option is on the table before you decide between the two straightforward routes.