PAYE11050 - Coding: codes: how they are used and calculated: rules for working out codes

This subject looks at rules to follow when dealing with all coding work for the many different types of case you will have to deal with. This subject also covers the allowances and deductions that you may need to include when coding.

The remainder of this subject is presented as follows

Allowances
Allowance restriction (HPAR)
Choosing a figure for coding out other income
Deductions
Estimates
How to allocate rates of tax
Keep records up to date
Last operated tax code
‘Provisional’ coding items
Rounding up figures
Take care and act promptly
When is a secondary employment source record required
Long tax codes
S codes
C codes

Allowances

Give each individual a coding allowance for all personal reliefs he or she is due.

The system sends targeted review forms only in selected cases. For others it assumes the current year coding allowances should continue for the following year. If you know they should be different change them in income, allowances, benefits and deductions.

Allowance restriction (HPAR)

The calculation of the allowance restriction (HPAR) will now be based on the individual’s total employment and/or occupational pension estimated pay and not just the individual’s ‘primary’ employment income.

To do this a comparison will be made of the net coding allowances (NCA) to the total employment / occupational pension estimated earnings income

  • Where the net coding allowances are greater than or equal to the total employment / occupational pension estimated earnings income, HPAR will be removed
  • Where the net coding allowances are less than the total employment / occupational pension estimated earnings income, standard HPAR coding rules will apply

Choosing a figure for coding out other income

When you have to deduct other income from allowances, follow these rules

  • The correct figure is the amount that would be assessable for the coding year
  • For the next coding year you can use the same figure as you used for the current year. However, if you know this figure may be much different, use a better estimate

Deductions

Try to cover by allowances, by deducting the amount from the allowances at the primary source, any of the following

  • Sources of earnings, for example small fees and tips
  • Casual profits
  • Interest
  • Property income
  • State Pensions (this is taxed as PAYE income)
  • Higher rate adjustments for income taxed at source
  • High Income Child Benefit Charge

However, if an individual objects to the coding out of income not chargeable to tax as PAYE income, remove the deduction from the code.

From 6 April 2015 the Regulatory limit ensuring employees have no more than 50% of their pay deducted has been extended to all tax codes.

The system will check where a deduction creates a K code that the 50% limit is not exceeded. Tax deducted on any one day cannot exceed 50% of the gross pay for that period. The employer will collect any shortfall on a later pay day if possible.

Note: State Pension and Child Benefit should not be removed from the tax code where the 50% K code limit is exceeded.

From 6 April 2015 the Regulatory limit ensuring employees have no more than 50% of their pay deducted has been extended to all tax codes.

Estimates

When you need to make an estimated coding entry

  • Make a reasonable estimate, using any information that may help you, unless the individual provides you with a more accurate figure

How to allocate rates of tax

Try to arrange the items that are chargeable to tax in such a way that the individual suffers the lowest rate first.

In most cases we collect tax on income covered by PAYE before that collected in other ways. So, where you can under PAYE

  • Give any allowances due in the code
  • Code out any untaxed income as usual

Keep records up to date

You must keep the individual's record up to date. Take special care to amend the record if you code a case manually. If you forget to update the record the system may issue the wrong code during an automatic process. This will mean extra work.

Last operated tax code

Each time a tax code calculation is triggered the PAYE Service will make a decision about the new tax code, based on the last tax code operated by an employer / pension provider.

In all instances, the last operated tax code is defined as the last tax code calculated where the basis of operation is set to cumulative or week 1/month 1.

When a primary source changes within a tax year, and a new tax code calculation is required, the last operated tax code will be the tax code calculated against the ceased primary source. The new primary source will have a start tax code and this is the tax code the new primary source will be operating. If the start tax code is not populated then the tax code from the ceased primary source will be used.

‘Not operated’ status tax codes

Each year at annual coding the PAYE Service will compare the new CY+1 tax code against the latest CY tax code operated. The PAYE Service will ignore any tax codes calculated with the ‘not operated’ status set and will go back to the latest CY tax code issued without the ‘not operated’ status.

For example, a tax code has been calculated CY on 1 January of 747L, the CY tax code was then amended to Code NT on 1 February but the ‘not operated’ status was set. At annual coding the PAYE Service would ignore the 1 February Code NT tax code calculation and base the CY+1 tax code on the 1 January 747L tax code calculation.

Note: You should take extra care when amending tax codes and only set the ‘not operated’ status when applicable, see PAYE11060 for further guidance.

‘Provisional’ coding items

You may occasionally need to give an allowance or relief on a provisional basis. If you do, be sure to make it clear to the individual that it is only provisional.

This is because a P2 or letter is normally enough to determine an individual's claim to an allowance or relief. It may be binding on HMRC, even if in the end the allowance or relief is not due.

This does not apply if it is only the amount of an allowance or relief that is in doubt, for example, with an age related allowance or relief for interest paid.

Rounding up figures

When rounding up amounts round any pence figure

  • In allowances, to the pound above
  • In deductions, to the pound below

Take care and act promptly

Coding is very important. If you take care when working out the figures it will cut down the number of queries from individuals and will also save work at the end of the year.

If a code needs to be changed and you have all the facts, amend it without delay. The sooner you issue a new code the sooner the individual will have the correct tax deducted.

When is a secondary employment source record required

Create a secondary employment source (see also PAYE76155) and review the allowances in determining a code when

  • Secondary source earnings are more than the basic Personal Allowance

Or

  • You want the employer to deduct tax. This includes cases where the pay varies and coding it out is difficult

Long tax codes

When you amend a tax code and the new tax code exceeds 7 characters (including prefixes and suffixes, but no more than 5 numerical digits) you should issue the P2 as normal using the PAYE Service and

  • Set the ‘Manual Correspondence to Employer’ indicator in the Employment Details screen
  • Use SEES to manually issue a form P6
  • Make a Contact History note that the individual’s tax code is too long to issue using the PAYE Service

S codes

An S prefix denotes a Scottish taxpayer. This S prefix is set by the system automatically based on the UK residency status of the individual. The S prefix will apply where an individual is a resident in the UK for tax purposes and their sole or main place of residence is in Scotland for more of the tax year than in another part of the UK.

C codes

A C prefix denotes a Welsh taxpayer. This C prefix is set by the system automatically based on the UK residency status of the individual.  The C prefix will apply where an individual is a resident in the UK for tax purposes and their sole or main place of residence is in Wales for more of the tax year than in another part of the UK.