If you get a coding notice it helps to be able to check that the Revenue have got it right.

We explain in this section what is on a coding notice, what all the letters and numbers mean and how to work out your tax using your code number.

The topics covered include:

What is Pay As You Earn (PAYE)?

Getting help

Who gets coding notices and when?

What is on a coding notice?

Coding letters and numbers

K Codes & other types of code number

Working out your tax from your code

Emergency tax codes

How do coding restrictions work?

What is Pay As You Earn (PAYE)?

• This means just what it says! It is the way in the UK that amounts of tax and NI due are collected from the wages and salaries of employees. It is also the way that tax on most pensions based on past employment are taxed.



• Each time you are paid you will receive a payslip showing your total wages and the tax and NIC taken from your pay. Your employer then pays the tax and NIC over to the Revenue.




• The amount you earn before tax is deducted is your 'gross salary'. The amount you get after tax and National Insurance has been deducted is your 'net salary'. When you get a payslip, you'll see:

  • the gross salary you've earned including any bonuses

  • how much Income Tax has been deducted
  • any NICs that have been deducted
  • any student loan repayments, if relevant
  • your take home pay, or the net salary you've actually received

• As well as being taxed on your pay, you're also taxed on benefits your employer provides, such as a company car, a low interest loan or medical insurance. You may also have to pay tax on tips you receive as part of your job.



• Your employer knows how much tax to take off because the Revenue tell your employer to operate a code number on your wages. The code tells your employer the total value of allowances he can set against your pay.



• The Revenue let you know what code your employer should be operating by sending you a form called a Notice of Coding (form P2). This form sets out your allowances and takes off any amounts that reduce those allowances. The balance is then available to be set off against your pay or pension. Have a look below at what is on a coding notice as this makes it much easier to understand.



• Your employer deducts tax based on information given to him by the Revenue so that you just receive the net amount after this tax has been taken off.



• The idea of PAYE is to try to make sure you have paid the right amount of tax due on your income by the end of the tax year. The tax is collected from each weekly or monthly payment of salary that you receive so that if it is correctly operated, you should have no additional tax to pay at the end of the year.



• If there is additional tax to pay at the end of the tax year or there is tax to be collected on your other untaxed income, the Revenue will normally collect this through your coding notice for a following year provided the amount is less than £2,000. This will be the case whether or not you need to complete a self-assessment tax return. You can however choose to pay the tax directly in which case you will need to tell the Revenue and they will send you a tax return to complete each year.



• Your tax code can be adjusted to recover tax of up to 50% of your total taxable pay (before taking off any allowances or other reliefs) but if your income is too small to recover the tax due or if the liability is over £2,000 you will need to complete a self assessment tax return.



• On the other hand if you have overpaid tax - you should contact your tax office who will advise you how to claim the repayment due.

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Getting help

• The address and phone number of the HMRC Contact Centre you may need to contact if you have any queries will be shown on your coding notice or on any correspondence you have received from the Revenue. It will be an 0845 number and the call will be charged at local rate. However a word of warning regarding how difficult it can be to speak to anyone at one of these Contact Centres - to see the problems we encountered have a look at our article on this topic.

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Who gets coding notices and when?

• For some employees or if you receive untaxed income such as interest paid without tax being deducted, a coding notice will be normally issued in January or February before the next tax year begins in April.
• If your coding notice is amended for any reason you will get a new notice once the changes have been processed. This can happen at any time during the current tax year.

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What is on a Coding notice?

Just to help you work round the form we suggest you have a look at your current coding notice as you read through the following points:

1. At the very top of the notice is a box with a tax year in it, for example 2008/09. A tax year runs from 6 April to 5 April and is not the same as a calendar year. To understand the year that this relates to, the simplest way is the take the later of the two years shown - in this case 2009, so the year the coding relates to is the year to 5 April 2009. Similarly a coding notice for 2009/10 will relate to the tax year ended 5 April 2010.



2. At the top on the left is the address box with your full address. You should always check to see that the information given is correct.



3. The top section of the notice also contains the phone number of your Contact Centre. These numbers all start 0845 and so are charged at the price of a local call.



4. The date of issue of the notice is shown together with your PAYE tax reference for the source of income to which the code relates and your National Insurance number.
   
   Pay As You Earn or PAYE is the method the Government uses to collect tax from people who receive pensions or wages. Your pension payer or employer deducts tax using the code number issued by the Revenue. You just receive the net amount after this tax has been taken off.
   
   Each pension payer or employer has a unique PAYE tax reference in the form 123/A456 or 123/4567. The reference enables the Revenue to identify them.



5. Moving down the form after Dear... the next line in bold tells you which tax year the notice relates to and the code to be operated for that year.



6. The notice then goes on to tell you which employer or pension payer the coding relates to.



7. The area enclosed in the box is where your code number is worked out. Allowances are listed first and any items that reduce your allowances are then worked out in the left had column as minus figures. These are totalled and are then deducted from your allowances to give you the figure of tax free allowances available to be set against your wages.
   
   
8. After the calculation the coding notice explains what your code number will be based on the allowances worked out above.

At the end of the form there are notes which are intended to highlight or explain points that arise from the coding notice. These may include advising you if you are a pensioner as to:

• what income you can receive before your higher personal allowance will be restricted;
• any estimates made in the form regarding annuities or occupational pensions;
• details of state benefits or state pension receivable in that year;
• a calculation of the rates of tax which will be applied to your pension.

If you are an employee the notes may include:

• details regarding the allowances available to you;
• details of any expenses or subscriptions you have claimed;
• an explanation of how relief is given on a personal pension you might be paying;
• details of how amounts due for an earlier year are to be collected or what other restrictions are included in your coding,
• details of the rates of tax that apply to your wages and any savings income you might have.

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• The number in your code comes from the calculation box on the coding notice.



• The code number itself is worked out by taking anything that reduces your allowances from the amount of allowances you are entitled to. The balance is divided by 10 and that the result becomes the number part of your code, for example, 668P.



• The letter is just to help the person paying your wages. It tells them what type of taxpayer you are. The main codes which will be used are:

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K Codes & other types of code number

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Working out your tax from your code

• We have two easy examples for you to follow to give you an idea of how to work out your tax based on your code number.
  
  You can see to work out your tax in the examples Tim & Heather

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Emergency tax codes

• Sometimes your employer or pension payer will have to put you on an emergency code until HMRC let them know what your correct tax code for the year should be.

• You might get an emergency tax code if:

  • you've started a new job and haven't got a P45 from your previous employer for the same tax year
  • you've started your first job since the start of the tax year and haven't been receiving any taxable state benefits or a state or company pension
  • you've started a new job but you've had another job or other jobs or received taxable state benefits during the year
  • you've started a new job and were previously self-employed
  • there's been a change in your tax code during the year because, for example, you've started to get company benefits or the State Pension

• An emergency tax code is a code that your employer or pension payer uses until HMRC has enough information to send you your correct code. It normally makes sure that you get the basic personal allowance (and therefore some tax-free pay) but doesn't take into account any other allowances or reliefs you may be entitled to.

• The emergency tax code is set each year and is a number followed by the letter L. The number is the basic Personal Allowance (£6,035 for the tax 2008/09) divided by 10. The emergency code for 2008/09 is therefore 603L. However the number is usually followed by W1 or M1 so 603L W1 or 603L M1(meaning Week 1 or Month 1 - what this actually means is that you get a proportion of your tax free personal allowance spread out over the remainder of the tax year).

• Week 1 or month 1 emergency codes treat each week or month on its own and give you an equal amount of tax-free pay every payday. As they can't take into account changes in your income or tax which may have happened earlier in the year your tax may not be exactly right at the end of the year.

• You might be put on a week 1 or month 1 emergency tax code if you've given your employer a P45 Part 3 showing a previously used week 1 or month 1 emergency code or you ticked Statement B on your P46 - telling your employer that you've had another job or taxable state benefits during the year - or your tax code has been reduced by a large amount.

• The code used in this way will give you the remainder of your tax-free Personal Allowance spread over the rest of the tax year. HMRC assume that you've already received some tax-free income in the period before you started your job or your tax code changed.

• Depending on how you are paid, you will either get 1/52 of your personal allowance if your are paid weekly, or 1/12 of your personal allowance if you are paid monthly, as tax free pay every payday. After taking into account any other allowances or reliefs the amount you earn above this level will be taxed. This will continue until the tax office sends your employer a PAYE code for you.

• You will stop being taxed on an emergency code:-

  • when the tax office sends the employer (and you) a PAYE tax code and details of previous earnings and tax paid for that tax year. This enables the employer to deduct the correct tax in future, and refund any overpaid tax caused by the emergency code; or
  • at the end of the tax year. The employer will usually stop deducting tax on a week 1 or month 1 basis, and start deducting tax cumulatively, that is, when deducting tax they will take into account the amount of tax you have already paid. In this case, the code number and letter will stay the same until the tax office sends the employer a PAYE tax code.
• You'll usually be put on a cumulative emergency tax code if you've ticked Statement A on your P46- telling your employer that this is your first job since the start of the tax year and you haven't been receiving any taxable pensions or state benefits.
• The code used in this way will give you your full tax-free personal allowance over the remainder of the tax year - that's because unlike the week 1 or month 1 code - your employer can carry forward any tax-free allowance not used in the period before you started your job. (As you've only just started work HMRC assume that you haven't yet used any of your tax-free personal allowance). This also means you should have paid the right tax by the end of the tax year.
• Once HMRC has details of your previous income and tax paid for the tax year, they will send your employer (and you) your full (correct) tax code. Your employer will deduct the correct tax in future and refund any overpaid tax.
• If you think you've paid too much tax because you've been taxed on an emergency code you should claim a refund by contacting your tax office. You'll need to provide them with a form P60 (showing pay and tax taken off for the tax year).

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How do coding restrictions work?

For the purpose of this section we will assume that you are a basic rate (20%) taxpayer.

Coding out an underpayment

• These types of underpayment relate usually to one of the following liabilities:



• an underpayment on your self assessment tax return for an earlier year which is being included in a later year's coding notice rather than being paid directly.



• where there is an estimated underpayment on an earlier year's coding notice which the Revenue have said they will collect the following year.


• The Revenue will include a restriction in your coding notice so that when your employer operates the code each week or month they will collect a proportion (1/12 or 1/52) of the amount of tax you owe. This restriction is worked out quite simply - it is the underpayment multiplied by 100 and then divided by 22.



• Example
  Say you have an underpayment of £440. Your coding notice will show a restriction of £440 x 100/22 or £2,000. The underpayment included in your coding of £2000 will be taxed at basic rate (22%) which is equal to tax of £440.

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