PAYE and tax codes

If you are an employee then your employer must operate PAYE. This stands for Pay As You Earn. PAYE is a way of collecting your income tax and National Insurance as you go along rather than getting a large tax bill at the end of the year. Tax is deducted each pay day from your pay before you receive it. This means that at the end of the tax year, you should have paid the right amount of tax.

PAYE is only a method of collecting tax. If there are any errors and the wrong amount of tax is collected, you are usually liable to pay any unpaid tax. This is one reason for taking time to understand how PAYE works – you are more likely to spot errors and avoid underpaying or overpaying tax over a long period of time, both of which can have negative consequences for the taxpayer.

The key to paying the right tax as an employee is having the right PAYE tax code so it is important to check that the tax code your employer uses is the right one for you. If you are unsure you should contact HMRC. You can do this on the Employee Helpline 0845 300 0627  (or via the HMRC contact us page).

Where your PAYE tax code comes from

The PAYE code used by the employer may come from a number of different places:  they will either be calculated and issued by HMRC or by the employer using rules set out for them by HMRC.

For new employers the code will come from your previous employer. If you have come from a previous employment (or received a taxable state benefit), your old employer (or the DWP) should give you a form P45 (see form P45 download page) to give to your new employer. The new employer should use the same tax code as your previous employer, which is shown on the P45.

If you do not have a P45, (perhaps because your previous employer is late issuing it, this is a second job, or you were previously self-employed, a student, or on a career break) then the employer will decide which PAYE code to use by completing a form P46 (P46 download page). Your new employer will usually ask you to part complete the P46.  But if they choose to complete the P46 themselves, your employer must ask you to confirm which of the three options set out under ‘personal circumstances’ applies to you. Your employer will then use your answer to this question to determine which of three tax codes to use.  For most people this should mean the correct tax code is used.  However, your employer should then send the P46 to HMRC who may issue you with a revised code as required.

Employers may also calculate a new tax code at the start of a tax year.  But this is only in a small number of circumstances that are set out in guidance issued by HMRC, and only if HMRC has not issued you a different tax code.  For example, if you have the usual 747L tax code for 2011/12 and no code is reissued before the start of 2012/13, your employer will automatically amend the code to reflect any increases in the tax free personal allowance that applies for the next tax year.

Please note: Employers cannot use a code given to them by any other process than those described above so even if you know what your code should be, simple telling your employer to change it will not result in a change (they are not allowed).  If you believe your tax code is wrong you must contact HMRC who will issue your employer with a revised tax code as required.