In this first post of our Ask an Accountant series, we are understanding tax codes and what they mean for your income. Many people feel confused when their tax code changes. However, your tax code directly affects how much tax you pay. Therefore, knowing how it works can help you avoid mistakes and prevent overpaying.
What is a tax code?
Your tax code tells your employer or pension provider how much tax to deduct from your income. It reflects your Personal Allowance, which is currently £12,570. This is the amount you can earn before you start paying income tax.
A tax code usually includes numbers and a letter. The numbers relate to your tax-free allowance, while the letter shows your specific tax situation.
For example:
1257L – The standard tax code used in England.
C1257L – The standard tax code used in Wales, where the “C” stands for Cymru.
Your tax code can change depending on your financial circumstances. As a result, it is important to check it regularly.
Understanding Tax Codes: Common Examples Explained
Here are some of the most common tax codes and what they mean:
1257W1 or 1257M1
These are emergency tax codes. They often appear when there is a gap between jobs. In this situation, your Personal Allowance is applied weekly or monthly until HM Revenue & Customs receives your previous employment details through your P45. Once this happens, your tax code is updated.
BR or CBR
This means all income is taxed at the Basic Rate of 20%. This usually happens when your Personal Allowance is used against another job or pension.
D0
This applies when income above the Basic Rate threshold is taxed at the Higher Rate of 40%.
D1
This code means your income is taxed at the Additional Rate of 45%.
K codes (for example, K112)
These appear when your deductions are higher than your Personal Allowance. This often happens if you receive benefits such as a company car or if you owe tax from previous years. A K code means you have extra taxable income.
Can You Split Your Personal Allowance?
If you have more than one income and both are within the Basic Rate band, you may ask HM Revenue & Customs to split your Personal Allowance. This can help you pay the correct tax and avoid overpayments. However, this only works if both incomes are below the Personal Allowance threshold.
How Tax Codes Are Updated
Tax codes are managed through information shared between employers, pension providers, and HM Revenue & Customs. When you leave a job, you receive a P45. Your new employer then uses this information so your tax code can be updated.
Sometimes, delays in this process can lead to temporary overpayments or underpayments. Therefore, it is always worth checking your payslip and contacting HMRC if something looks wrong.
What Happens If You Overpay Tax?
If you pay too much tax during the year, HM Revenue & Customs will usually review your record after the tax year ends. They may send you a P800 letter explaining the overpayment and arrange a refund.
Final Thoughts
Understanding your tax code can make a real difference to your finances. Although it may seem complicated at first, checking your code regularly helps you stay in control and avoid surprises. If you are unsure about your tax code or think it may be wrong, it is always worth seeking advice.