Cracking the code
Sarah Bradford, of Writetax Ltd, explains the range of tax codes, their operation, the basis on which they are determined and when they are used
T
he tax code is fundamental to the operation of pay as you earn (PAYE) and that seemly innocuous combination of numbers and letters contains vital information. Although not needing Bletchley Park level code breaking skills, some knowledge is necessary both to understand the code and to check that it is correct.
What is a tax code? A tax code is used to work out how much tax under PAYE to deduct from an employee’s pay each time that a payment is made to an employee. It is vital that an employee has the correct tax code. If the
Table 1 Code When used
BR All income is to be taxed at the basic rate (20%)
0T
Indicates that zero allowances are available because the allowances have been used up elsewhere. Income is taxed at the relevant marginal rates of tax. Code 0T is also used where an employee starts a new job and has not provided a form P45 and has not completed a form P46 or a new starter checklist
D0 All income is taxed at the higher rate of tax (40%)
D1 All income is taxed at the additional rate of tax (45%)
NT Where no tax is deducted from the income or pension
20 PayrollProfessional
code is wrong the employee will pay too much or too little tax under PAYE resulting in either a repayment or a shortfall which must be paid either under self-assessment or via an adjustment to the employee’s code for a later year. A tax code is usually made up of letters and numbers, but there are different types of code for different circumstances.
Suffix codes
Suffix codes are the most common type of tax code. A suffix code comprises several number followed by a letter. The number part of the code indicates the amount of income that the employee can earn in a year before paying tax, which is the code number multiplied by ten. This is the employee’s tax-free pay for the year. For example, an employee with a tax code of 50L would be able to earn £500 tax-free for the tax year. The number in the code is used to find the tax free pay to date in the Pay Adjustment Tables (Table A) published by HMRC and incorporated in payroll software packages (see
www.hmrc.gov.uk/ taxtables/pay-adjustment-tables.pdf.) The number reflects the personal allowances to which the employee is entitled, less any deductions from the code, with the last digit omitted. For example, if someone was entitled to the basic personal allowance only, for 2013/14 the number element in the suffix code is 944, being the basic personal allowance for 2013/14 of £9,440 with the final zero missing.
Deductions may be made from allowances for various reasons, such as to collect the tax due on benefits in kind or expenses, to collect tax on untaxed income or to collect unpaid tax from earlier years. These examined further below. The other component of a suffix code is the suffix letter. Common suffix letters and their meaning are shown in the table below. (See table 1.) For example, a code 1050P indicates that a person is eligible for the full age- related personal allowance for people born between 6 April 1938 and 5 April 1948. The suffix letter is also used to instruct employers how to adjust the tax code for changes to allowances announced by the Chancellor.
K-codes
‘K-codes’ are used where deductions exceed allowances. A K-code takes the form of the letter K followed by a number, e.g. K123. The number element is found by determining the amount by which deductions exceed allowances, taking away
...PAID EITHER UNDER SELF-ASSESSMENT OR VIA AN ADJUSTMENT TO THE EMPLOYEE’S CODE FOR A LATER YEAR
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