Tax codes are a vitally important part of payroll. No matter whether you run a small business and take care of your employees’ wages in-house or you ask someone to do it for you, it’s crucial that you make sure that you, or your trusted advisor is working with the right PAYE and tax codes.
Tax codes in themselves are just a few numbers and one or two letters, but they are really significant in the whole payroll process. Knowing how PAYE and tax codes work is also an essential part of running a successful business if you employ staff. After all, it’s critical that your employees get paid the right amount at the right time.
Why tax codes are important
As we’ve mentioned, tax codes are made up of a just few numbers and one or two letters, but they are key to working out how much income tax needs to be paid for an employee.
What do the letters and numbers in a tax code mean?
There are two elements to every tax code. They are the numbers and the letters. In most instances, the number element, multiplied by 10 tells us how much tax-free allowance someone has. There are varous letters that can be added to the number element of someone’s tax code, and here’s a table from HMRC to explain what they mean:
Table from here: https://www.gov.uk/employee-tax-codes/letters
If there is a K in a tax code however, this means there are company benefits, state pension or tax owed from previous years that come to a higher amount than the person’s personal allowance.
The personal allowance includes any allowances due for blindness, pension contributions or charity gifts as well as interest payments made to qualifying loans.
Emergency tax codes
If a tax code has M1 or W1 at the end, this indicates that it is an emergency tax code. Employees who are on an emergency tax code will pay tax on all of their income above the basic Personal Allowance. Emergency tax codes are used when people start a new job; start work after being self-employed or when people have started to get company benefits or the state pension. They are temporary and employers should work with employees to update their tax code.
5 useful facts about PAYE and tax codes
- Tax codes are issued by HMRC.
- Everyone who is paid within a PAYE system should have a tax code.
- They’re used to make sure that the right amount of tax is collected.
- Employers can get an employee’s tax code from a P45, P60 or from a HMRC Notice of Coding (often called a P6 or a P9 notice).
- Annual ‘blanket’ changes to tax codes are communicated by HMRC using form P9X, and after the annual budget, using form P7X.
What should do if you have tax code problems?
Problems with tax codes are relatively common in payroll. Dealing with starters and with people whose circumstances have changed are commonplace and the key to keeping up to date is to keep HMRC informed. This can be done online and is easy and fast to do.
It’s not unknown for errors to happen and here are some of the most common that we hear about:
- Not using the right tax code for starters.
- Applying the wrong tax code.
- Not using the same tax code in a new year when no code change notice had been received.
- Not applying new tax codes that have been received.
- Using out of date PAYE tables.
- Making errors when inputting data.
As an employer, it’s your responsibility to do all you can to make sure you use the right tax code for your employees. If there is an issue, you can end up facing a disgruntled employee or even worse, an enquiry from HMRC. Dealing with either of these situations, in addition to running your business can be stressful and time consuming. This is why so many people choose to outsource their payroll to the likes of Perfect Payrolls.
When you outsource your payroll, you relieve yourself of the pressure associated with payroll. If you would like peace of mind around your payroll, you’re in the right place.