The Pay As You Earn (PAYE) system
The Pay As You Earn (PAYE) system is a method of paying income tax and national insurance contributions. Your employer deducts tax and national insurance contributions from your wages or occupational pension before paying you your wages or pension.
Wages includes sick pay, maternity or paternity pay and adoption pay. You pay tax over the whole year, each time you are paid, rather than paying tax in one lump sum. Your employer is responsible for sending the tax on to HM Revenue and Customs (HMRC). Each pay day you will get a pay slip setting out your pay, tax and national insurance contributions and any other deductions from your pay. If you get a pension, you may not get a payslip for every payment.
At the end of the tax year, you will get a form P60 which sets out the total amounts paid to you and deducted from you for the previous tax year. A tax year runs from 6 April one year to 5 April the following year.
If you pay tax on your wages or occupational pension under PAYE, the PAYE system can also be used to collect the income tax on any other taxable income you have. For example, if you pay tax under PAYE on an occupational pension, the tax due on your State Retirement Pension is collected through PAYE by deducting tax from your occupational pension. The PAYE system can also be used to collect tax due on other sources of income such as untaxed interest or rent. It can also be used to collect other money that you owe to HMRC, such as overpaid tax credits, tax debts from previous years and unpaid self-employed national insurance contributions.
How employers use tax codes to deduct tax under PAYE
HMRC uses a tax code to tell your employer or pension provider how much tax to deduct from your wages or pension. If HMRC does not have enough information to issue a full tax code, your employer or pension provider will be told to use an emergency tax code until more information is received and the tax code can be adjusted – see under heading Emergency tax codes.
Most PAYE codes are made up of a number followed by a letter:
- the letter relates to the type of allowance(s) you are getting (see below)
- the number shows the amount of income you have as allowances which may be set against tax (see below).
The letter in the tax code
The letter in the tax code, which shows which tax allowances you are receiving, will be one of the following:
L if you were born after 5 April 1948 and eligible for the basic personal allowance. You will also be given this code if you are being taxed on the emergency code.
P if you were born between 6 April 1938 and 5 April 1948 and entitled to a full age-related personal allowance
Y if you were born before 6 April 1938 and entitled to a full age-related personal allowance
T may be allocated for a number of reasons. These include:
- where you request it, because you do not want to reveal your actual code
- you or your partner were born before 6 April 1938
- there is a reduced age-related allowance in the code.
K This code is used if your total tax allowances are less than the total deductions to be taken away from your allowances. If your untaxed income is from benefits in kind, pensions, interest or social security benefits, you may be given a K code.
BR if you have not been given any allowances and tax will be deducted at the basic rate. This code may be given if you’ve got more than one job or pension or when you start your first job and your employer is waiting for a tax code
NT if you do not have to pay tax. This code does not include a number.
DO if all your income from this job or pension is taxed at the 40% higher rate (usually used if you’ve got more than one job or pension)
OT no allowances have been given or remain after other adjustments have been made. Tax will be paid at the basic rate or higher rate, depending on the level of income
You can find more about tax codes on the GOV.UK website at www.gov.uk.
The number in the tax code
The number in the tax code represents the total of all available allowances, less any amount to be deducted to cover other income or benefits.
For more details about the number in the tax code, go to the GOV.UK website at www.gov.uk.
Where to find your tax code
If you are given a PAYE tax code, it will be shown on:
- a notice of coding sent by your tax office – see under heading Notice of coding
- your pay slip
- your pension statement if you're getting an occupational pension.
The tax office may not be able to give your employer a tax code to allow them to deduct the right amount of tax over the whole year. In this case, the tax office gives your employer an emergency code with which to tax you. An emergency code assumes that you are only entitled to the basic personal allowance and your PAYE tax code will include the letter L, which shows that you are only receiving this personal allowance. It does not take into account any other allowances and reliefs you may be entitled to.
You will stop being taxed on an emergency code when the tax office sends your employer or pension payer a correct PAYE tax code, and gives your employer details of previous earnings and tax paid in that tax year. This enables your employer or pension payer to deduct the correct tax in future and refund any overpaid tax caused by the emergency code. Moving to the correct code may mean you owe tax for the earlier part of the year but HMRC will tell your employer to only deduct reasonable amounts. You may therefore have to pay back some tax later on. If at the end of the tax year you think you have paid too much tax because you've been taxed on an emergency code, you should claim a refund by writing to your tax office.
Alternatively you will stop being taxed on an emergency code at the start of the new tax year. In the new year, your employer or pension provider will usually start deducting tax cumulatively, that is, when deducting tax your employer will take into account the amount of tax you have already paid in that year.
You can find more information about emergency tax codes on the GOV.UK website at:www.gov.uk.
You can also find further helpful information on the website of Low Income Tax Reform Group (LTRG) at www.litrg.org.uk.
A notice of coding shows your tax code if you are going to pay through the PAYE system. The notice is usually sent out in January or February for the tax year beginning on the following 6 April. The code shown in the notice is given for that tax year only. The notes that come with the notice of coding explain how the code is worked out.
Not everyone gets a notice of coding each year. It depends on what allowances and reliefs you are claiming and whether these tend to change from year to year. If the only changes are the increase of allowances in the Budget or any change in the tax rates, your employer or pension provider will include these automatically in your wages or pension and you won't get a notice of coding.
For more information about your notice of coding, go to the GOV.UK website at www.gov.uk.
You should check carefully that you have been given all the allowances and reliefs that you are entitled to claim and that all your income has been taken into account. If help is needed, contact HMRC on the telephone number shown on your Notice of coding. You can also get help with checking your Notice of coding on the LITRG website at www.litrg.org.uk.
If you have income which is not taxed by deductions from your pay or pension under PAYE, you will probably need to complete a tax return form in order to provide HMRC with the details. This is called Self Assessment. Income that is not taxed under PAYE could include:
- income from renting out a room
- income from self-employment
- other untaxed income.
You must tell HMRC if you receive taxable income in addition to any income you pay tax on through PAYE. They will tell you whether you have to complete a tax return form.
If you want to check that you are paying the right amount of tax, or if you think you may have overpaid or underpaid tax, you should contact HMRC on the Taxes Helpline, 0300 200 3300 (Textphone 0300 200 3319).
For more information about Self Assessment, including details of the deadlines for sending in your tax return, see Self Assessment.
For help with Self Assessment, contact the HMRC Self Assessment Helpline on 0300 200 3310 (Textphone 0300 200 3319).
Paying HMRC debts with PAYE
HMRC can take money out of your pay to collect money you owe them, but there are limits to how much they can take.
If you earn less than £30,000 per year, HMRC can collect up to £3,000 per year.
If you earn over £30,000, HMRC can take more than £3,000 - the amount they can collect per year will increase depending on how much over £30,000 you earn.
The maximum amount of debt HMRC can collect in a year is £17,000 - you'll only pay this much if you earn over £90,000.
HMRC can't take more than 50% of your pay to collect a debt you owe to HMRC.
If your circumstances change during the tax year, for example, you have a new source of income, you must inform HMRC in writing as soon as possible.
For more information about particular changes in circumstances, see Pay As You Earn: common problems.