PAYE tax codes are not easy to understand and yet HMRC considers it the responsibility of individual taxpayers to check that their own code is right and to inform HMRC if it is not.
In our experience, it is extremely hit and miss whether taxpayers even receive a copy of their coding notice (aka a form P2) these days. The most likely place you will find it is on your payslip. The best place to find it is in the Personal Tax Account where you can not only see but also change it. If you are registered for self-assessment, you should also be able to see coding notices in your Government Gateway account but this is not always the case.
Job 1: Set up a Personal Tax Account
Job 2: Find out what your tax code is for each of your employments
Your employer is legally obliged to apply the code issued by HMRC – they cannot apply a different one because you ask them to, nor can they contact HMRC about getting it changed. Decent payroll software (we use BrightPay) will have an online checking function. At very worst there should be a one-off delay in the rare situation where the timings of the payroll and the issue of a new code collide. Sometimes HMRC will issue multiple PAYE codes – we have a client who once received 4 separate notices all issued on the same date.
An employer using the wrong code can give rise to substantial errors in the tax being deducted from your pay resulting in repayments directly from future pay during the current year or a debt that needs to be settled via self-assessment, or impacts on your PAYE tax in future years.
Job 3: Ensure that your employer is applying the code issued by HMRC
Job 4: Make sure your code is right
If you have an accountant, you should ask them to check that your code is correct. If you don’t, here are a few pointers:
- Personal allowances are the starting point for most tax codes.
- Other amounts may be added to your personal allowance to increase the amount you can earn before paying tax, for example job expenses, or regular charitable donation
- There may be some items in your tax code that reduce your tax-free amount and so increase the amount of tax that you pay such as benefits-in-kind.
- If you owe tax for an earlier period, your persona allowance may be reduced so that you pay it back – this calculation is a little weird but the amount of tax and the way that the repayment converts into the adjustment to your code is shown in the accompanying notes.
- If you receive other income that sits outside the PAYE system, such as profits from a rental property, there may be an estimate of that income included in your code.
- Increasingly we also see HMRC including dividends from a personal trading company but you can request to have this adjustment removed – you may meet resistance so be prepared to take a firm
- Your tax code is your adjusted personal allowance with the last digit removed and a letter added.
Most of the letters added are there for HMRC or your employer’s reference but ones to look out for are the preceding K code (this means you have more deductions that allowances and end up in a minus position). The most common reason for this is income in excess of £125,000.
A list of letter codes can be found here: https://www.gov.uk/employee-tax-codes/letters
Another area where we see issues arising from incorrect tax codes is pensions. These are just like employment income from a PAYE perspective and you should receive ‘payslips’ showing your tax code. The main, but not sole, cause of tax code problems is where there is a flexible draw-down facility. HMRC’s systems can treat one-off lump sums as a sign of an increase to the recurring payment and therefore adjust the tax code accordingly – this happened to one of our clients last year and it took months to get HMRC to apply the correct code. In the meantime the pension income was severely reduced as too much tax was deducted. Fortunately this client is tax-savvy and whilst this one was a whopping coding error, less obvious mistakes can often go unnoticed.
Job 5: Check your code regularly
Obvious checkpoints are the start of a new tax year and changing jobs but it is worth checking your code each time you receive a payment. Mistakes happen and the longer they continue, the worse the potential outcome. PAYE works on a cumulative basis so the earlier an error is identified, the less draconian the measures to correct it are when tax has been underpaid. On the other hand, if you have paid too much tax, you’ll get it back straight away. In 2018-19, only 85% paid the correct tax via PAYE. Whilst 5% had underpaid, 1 in 10 of us had OVERPAID income tax. Worth a quick check?