How to understand your employees' tax codes
Using HMRC's latest tax codes is essential if you pay employees through the PAYE system. Your employees receive the correct payment, and Income Tax is deducted correctly.
Tax codes are explained in this article, as well as how employees' tax codes may change under different circumstances.
What the numbers mean
The numbers in an employee’s tax code show how much tax-free income they get in that tax year.
You usually multiply the number in the tax code by 10 to get the total amount of income they can earn before being taxed.
For example, an employee with the tax code 1257L can earn £12,570 before being taxed. If they earn £27,000 per year, their taxable income is £14,430.
The process is different if the employee has the letter ‘K’ in their tax code.
Tax codes indicate how much income an employee can earn before paying income tax. In most cases, this number is based on the individual's national Personal Allowance, which is £12,570 for the current tax year.
Taxes on income and taxable benefits above the allowance are imposed at the appropriate rate.
What the letters mean
Letters in an employee’s tax code refer to their situation and how it affects their Personal Allowance.
| Code | How tax is deducted | When this code is usually used |
|---|---|---|
| 0T | From all income - there is no Personal Allowance | When an employee has not given you a P45 or enough details to work out their tax code, or when their Personal Allowance has been used up |
| BR | From all income at the basic rate | For a second job or pension |
| C | From income in the Welsh tax bands | For an employee whose main home is in Wales |
| C0T | From all income - there is no Personal Allowance | When an employee whose main home is in Wales has not given you a P45 or enough details to work out their tax code, or when their Personal Allowance has been used up |
| CBR | From all income at the basic rate in Wales | For a second job or pension |
| CD0 | From all income at the basic rate in Wales | For a second job or pension |
| CD1 | From all income at the additional rate in Wales | For a second job or pension |
| D0 | From all income at the higher rate | For a second job or pension |
| D1 | From all income at the additional rate | For a second job or pension |
| L | At basic, higher and additional rates depending on the amount of taxable income | For an employee entitled to the standard tax-free Personal Allowance |
| M | At basic, higher and additional rates depending on the amount of taxable income | For an employee whose spouse or civil partner has transferred some of their Personal Allowance |
| N | At basic, higher and additional rates depending on the amount of taxable income | For an employee who has transferred some of their Personal Allowance to their spouse or civil partner |
| NT | No tax is deducted | Very specific cases, for example musicians who are regarded as self-employed and not subject to PAYE |
| S | From income in the Scottish tax bands | For an employee whose main home is in Scotland |
| S0T | From all income - there is no Personal Allowance | When an employee whose main home is in Scotland has not given you a P45 or enough details to work out their tax code, or when their Personal Allowance has been used up |
| SBR | From all income at the basic rate in Scotland | For a second job or pension |
| SD0 | From all income at the intermediate rate in Scotland | For a second job or pension |
| SD1 | From all income at the higher rate in Scotland | For a second job or pension |
| SD2 | From all income at the top rate in Scotland | For a second job or pension |
| T | At basic, higher and additional rates depending on the amount of taxable income | When HMRC needs to review some items with the employee |
If your employee’s tax code has ‘W1’ or ‘M1’ at the end
W1 (week 1) and M1 (month 1) are emergency tax codes and appear at the end of an employee’s tax code, for example ‘577L W1’ or ‘577L M1’. Calculate your employee’s tax only on what they are paid in the current pay period, not the whole year.
Tax codes with the letter ‘K’
The letter K is used in an employee’s tax code when deductions due for company benefits, state pension or tax owed from previous years are greater than their Personal Allowance.
Multiply the number in their tax code by 10 to show how much should be added to their taxable income before deductions are calculated.
ExampleAn employee with tax code K475 and a salary of £27,000 has taxable income of £31,750 (£27,000 plus £4,750).
The tax deduction for each pay period cannot be more than half an employee’s pre-tax pay or pension.
Changes during the tax year
Usually someone’s tax code changes if their tax-free income (Personal Allowance) goes up or down. For example if they start or stop receiving a taxable benefit like a company car.
HM Revenue and Customs (HMRC) will send you an email alert if one of your employees’ tax codes changes.
Access the new tax code in PAYE Online (in ‘tax code notices’), the PAYE Desktop Viewer application, or in your payroll software (if it has this feature). Check if your employee’s previous pay and tax are included with the new tax code. If they are, note these figures.
As soon as possible, and before you next pay your employee, update their payroll record with their new tax code. Add their previous pay and tax, if you received these figures with the new tax code.
A tax code notice is sometimes called a P6 form.
If you receive an employee’s new tax code too late to use in the tax year, you should use it in the new tax year.
Updating for the new tax year
HM Revenue and Customs (HMRC) will tell you between January and March about any new tax codes to use for employees in the new tax year. This starts on 6 April.
If an employee’s tax code is not changing, HMRC will not contact you and you should carry forward the employee’s tax code to the new tax year.
If your employee’s tax code ends with ‘M1’ or ‘W1’ (‘month 1’ or ‘week 1’), do not carry this part of the code into the new tax year.
Get the advice you need from Zyla Accountants
In order to make a payment and deduct income tax correctly, these tax codes are crucial. Whether you need assistance with tax codes or dealing with HMRC, our accountants can help you.
Contact our team today at www.zyla.accountants