Ole Gunnar Solskjaer's side were second best throughout the contest as they struggled to create any clear-cut openings while being overrun in midfield.
Presnel Kimpembe and Kylian Mbappe grabbed the goals for the visitors, bringing to an end United's unbeaten streak across all competitions under Solskjaer.
Neville, part of the famous 'Class of 92', has insisted that his former club are not yet capable of competing at the elite level, as he told BBC Radio Five Live: "It was a disappointing defeat on a flat night at Old Trafford, but that is not a reflection on Ole - more a reminder of how far this United team is from being a side that can win the Champions League.
"I thought that after they lost at home to Juventus in October and, although they now have a different manager, as a team they are still in exactly the same place, which is well behind the leading European sides.
"I think we have to accept that United are not good enough, and move on."
United then host Liverpool in the top flight on February 24 before games against Crystal Palace and Southampton, with their second-leg tie against PSG scheduled on March 6.
Despite his first defeat at the helm, Neville is still backing Solskjaer to be appointed as the club's next permanent manager and feels he should not be judged on the team's latest performance.
The Norwegian succeeded Jose Mourinho in the hotseat back in December as caretaker manager and has been an instant hit in the role while restoring the feel-good factor around the club.
"Tuesday's defeat by Paris Saint-Germain should not define Manchester United's season, or decide whether interim boss Ole Gunnar Solskjaer gets the job permanently," he added.
"Realistically, they were never going to win the Champions League anyway but what they can achieve is finish in the top four of the Premier League, and continue their progress in the FA Cup. That has to be the focus now.
"Their final league position, in particular, is what actually will define United's season and I am sure that is the way Ole will look at it too.
"I think he should get the job on a full-time basis based on what he has done since taking charge - not just with his fantastic results but because of the way he has changed the whole outlook of the club."