Understanding your employees’ tax codes

As a business owner or manager in the UK, it is essential to have a basic understanding of the tax codes that are assigned to your employees. These codes are used to determine how much tax should be withheld from an employee’s pay, and they can be affected by factors such as an employee’s income, deductions, and credits. This article will discuss the basics of tax codes and how they are used, as well as provide an overview of the different types of codes and what they mean.

What is a tax code?

A tax code is a series of letters and numbers assigned to an employee by Her Majesty’s Revenue and Customs (HMRC). The code calculates the amount of tax that should be withheld from an employee’s pay, based on the employee’s income, deductions, and credits. Tax codes are typically assigned to employees at the beginning of the tax year, but they can also change during the year.

What does the number mean?

The number in an employee’s tax code represents the employee’s Personal Allowance for that tax year. The Personal Allowance is the amount a person can earn each year without paying any income tax. For the 2021/2022 tax year, the standard Personal Allowance is £12,570. If an employee’s tax code is 1250L, they are entitled to a Personal Allowance of £12,500.

What should you do?

When you employ a new person, you maintain their tax codes using P45. The employee code made using P45 will combine numbers and letters. At the beginning of every financial or tax year, businesses need to update the employee tax code. If there are any changes in the employee’s tax code, HMRC will drop an email regarding the same. Based on the changes, you must update the payroll information.

Tax code 1257L

For the financial year 2022-23, the tax code 1257L was the most commonly used tax code. This code applies to people with only one job and untaxed income, taxable benefits or unpaid income. This code will become an emergency code if followed by W1, M1, and X. The emergency codes will apply to new employees who do not have P45.

Employees’ personal allowance

The Personal Allowance is an amount everyone is entitled to earn yearly without paying any income tax. The amount of the Personal Allowance is determined by the government and may change each tax year. For the 2021/2022 tax year, the standard Personal Allowance is £12,570.

Changing tax codes

If an employee’s circumstances change, such as a change in employment, their tax code may also change. This can result in the employee owing taxes or receiving a refund. As an employer, it is vital to stay informed of any changes to your employees’ tax codes and ensure that the correct amount of tax is being withheld from their pay. The employees should be aware of any changes to their tax code and report it to the employer if it is wrong or should be changed. Employees also have the right to enquire if they think they are being taxed more than they should be.

What is the meaning of each suffix across the codes?

In addition to the number that represents the Personal Allowance, tax codes also include a combination of letters that provide additional information about the employee's tax status. Some of the most common letter codes include:

• L Suffix: The "L" suffix indicates that the employee is entitled to the standard Personal Allowance.
• M Suffix: The "M" suffix indicates that the employee is entitled to the standard Personal Allowance and the employee’s partner (spouse or civil partner) has transferred some of their Personal Allowance to the employee.
• N Suffix: The "N" suffix indicates that the employee is entitled to the standard Personal Allowance and the employee’s partner (spouse or civil partner) has transferred some of their Personal Allowance to the employee.
• S Suffix: The "S" suffix indicates that the employee is entitled to the standard Personal Allowance and the employee’s partner (spouse or civil partner) is entitled to the Blind Person’s Allowance.
• K Suffix: The "K" suffix indicates that the employee has a tax bill that needs to be paid through their pay. The code will typically include the letter "K" followed by a number, which represents the amount of tax that needs to be paid. For example, a tax code of K497 would indicate that the employee has a tax bill of £497 that will be paid through their pay.

What do the other codes mean?

In addition to the codes mentioned above, several other codes may be assigned to an employee:

• 0T: The "0T" code indicates that the employee has no Personal Allowance, and that all of their income will be subject to tax. This code is usually assigned to employees with high incomes or multiple sources of income.
• D0: The "D0" code indicates that the employee is entitled to the standard Personal Allowance, but the employer should use a different calculation method to determine the amount of tax to be withheld from the employee’s pay.
• D1: The "D1" code is similar to the "D0" code. It indicates that the employee is entitled to the standard Personal Allowance, but the employer should use a different calculation method to determine the amount of tax to be withheld from the employee’s pay. However, the "D1" code may be used when additional deductions need to be considered.
• NT: The "NT" code indicates that the employee should not pay any tax on their income, usually because it is exempt.
• M1/W1: The "M1" or "W1" code indicates that the employee is being paid on a weekly or monthly basis and that the calculation of the tax to be withheld is based on the cumulative pay for the tax year divided by the number of pay periods.

Conclusion

It is important to note that tax codes can be complex. It is advisable to consult with a tax expert if you have any questions or concerns about your employees’ tax codes or if you need help with interpreting the codes. It is also vital to ensure that employees are aware of their tax codes and their implications on their tax situation.