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HMRC internal manual

PAYE Manual

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HM Revenue & Customs
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Coding: coding: general principles: higher rate individuals

Where an individual is liable to tax at higher rates there are special rules about the coding. The precise rules to follow depend on how many PAYE sources the individual has.

Note: From 6 April 2016 the Scottish rate of income tax will apply where an individual is resident in the United Kingdom (UK) for tax purposes and who has their sole or main place of residence in Scotland for more of the tax year than in another part of the UK. The Scottish taxpayer status applies for a whole tax year and it is not possible to be a Scottish taxpayer for part of a tax year.

The total rate for Scottish taxpayers is the amount of income tax Scottish taxpayers will pay on their non-savings and non-dividend income. Savings and dividend income is still taxed using the UK tax rates regardless of the individual’s residential status.

The tax code will include an S prefix to indicate they are liable at the Scottish income tax rates.

Tax code NT is still used for both United Kingdom (England, Wales and Northern Ireland) and Scottish taxpayers, therefore tax code NT will not include an S prefix.

Further information is given at PAYE100035

The remainder of this subject is presented as follows

Items for which an adjustment is required in the code

Where the individual is liable at the higher rate or the additional rate, the system will calculate the coding adjustment from the details included on the income, allowances, benefits and deductions area.

The P202 chart gives more information about coding adjustments.

More than one coded source: allocating rates

Where the individual is liable at the higher rate or the additional rate you may have to spread the tax rates over two or more PAYE sources. The general rule is that the primary source will utilise the tax allowances and tax rates first and the secondary source will be coded D0 or D1, which will be seen from Annual Coding 2011-12. This tells the employer to deduct tax on the secondary source at one of the higher rates on all payments.

There are two notable exceptions to this rule

  • The first is where the individual has asked you to use the rates in a specific way. Here you should issue codes that comply with the individual’s wishes
  • The second is where you should use code BR or D prefix. You may see cases where, on the primary source income alone, the individual is liable

    • At the basic rate
      And
    • It is the secondary source income that takes the individual into the higher rate or the additional rate

In other words there is a balance of the basic rate or the higher rate left over from the primary source income

  • If you simply code the secondary source D0 or D1, then the individual will pay too much tax
  • If you code the secondary source BR or D0 the individual will be underpaid

The answer is to include an Adjustment to Tax Rate Bands restriction (ARB) at the primary source and for the secondary source to use code BR or D0. This restriction will be introduced into tax codes issued for the 2011-12 tax year and replaces the Basic Rate Restriction (BRR), which remains appropriate for years up to and including 2010-11.

The system will calculate the Adjustment to Tax Rate Bands restriction automatically based on the following

  • Work out the tax actually due if all sources are assessed as a whole and the tax that would be due if each source were assessed separately
  • The difference is multiplied by 100 and divided by the rate of liability at the main source to obtain the Adjustment to Tax Rate Bands restriction

Note: Where an Adjustment to Tax Rate Bands restriction is required, the Tax Code Calculation will only include the estimated pay for ‘live’, ‘potentially ceased’ (P Ceased) employments.

Calculation Example

Calculate total tax due in accordance with the tax tables by adding total Employment pay less Allowances, Reliefs and Deductions, not including Adjustment to Tax Rate Bands restriction (A)

Calculate tax due in accordance with the tax tables at each coded source (B)

Take B away from A to arrive at C

C is the amount of tax that will be under deducted if no restriction put into the code

Multiply C by 100 and divide by the rate of liability at the main source to arrive at D. D is the amount of the Adjustment to Tax Rate Bands restriction to be entered in the code

Example - 2011-2012

Tax due if taxable earnings from all sources are assessed together = £9,500 (A)

Tax due if each source is assessed separately = £8,260 (B)

Difference = £1,240 (C)

Rate of liability at main source = 20 per cent

Calculation is £1,240 (C) x 100 / 20 = £6,200 (D) - where the Primary liability is at Basic rate

Or

Calculation is £1,240 (C) x 100 / 40 = £3,100 (D) - where the Primary liability is at the first higher rate

Primary source tax codes with both an ARB restriction and other earnings calculated or a large ARB calculation

You may come across cases in your day to day work where a primary source tax code has an Adjustment to Tax Rate Bands restriction included and some allowances have been allocated to a secondary source(s). The majority of these cases will have the primary source estimated pay lower (sometimes substantially) than the secondary source(s) estimated pay.

To ensure that the tax codes are as accurate as possible you should

  • Update the status of the employment(s) / occupational pension(s) to make the largest PAYE source the primary source
  • Re-trigger the coding calculation so that the primary sources tax code only contains the revised Adjustment to Tax Rate Bands restriction

When reviewing these cases and issuing revised tax codes you should ensure that the correct basis of operation is selected. You should check the revised tax code you are issuing against the last tax code operated by the employer / pension provider, see PAYE11120 for further guidance.

Rates at which taxed income charged

There were significant changes in the income tax treatment of taxed income from 1996-97 and from 1999-2000.

From 1996-97 to 1998-99, most sources of taxed income (apart from discretionary trust income and a few other exceptions) will have been charged to tax at the lower rate of 20 per cent.

From 1999-2000, tax credits attached to dividend income reduced from 20 per cent to 10 per cent. The higher rate on dividend income is 32.5 per cent.

For 2008-2009, the 10 per cent starting rate and 22 per cent basic rate for 2008-2009 for earned income and pensions was replaced with a single 20 per cent basic rate band. In certain circumstances, the 10 per cent starting rate continues to be available against savings income and capital gains. Where the total taxable earned / pension income is less than the starting rate band, the balance of the starting rate band can be used against the savings income.

When to include an adjustment for taxed income

Only adjust the coding for taxed income where

  • The individual agrees (PAYE12060)
  • The taxed income amount includes no item

    • Subject to Double Taxation relief
    • Arising during the administration period of an estate
    • That includes income from a discretionary trust
    • Which may be affected by top slicing provisions

It is acceptable for an adjustment to be made to the code even if the individual also has taxed income as listed above.

The higher rate adjustment

From 6 April 1999, up to 5 April 2016, tax credits attached to dividend income were reduced from 20 per cent to 10 per cent. Individual shareholders liable at the basic rate will continue to have no additional tax to pay on their dividends. Those liable at the higher rate or additional rate of tax will see no change in their tax bills because

  • Although the new tax credit reduces the credit to be set against tax to 10 per cent it also reduces the income brought into charge
  • The new dividend ‘higher rate’ was 32.5 per cent rather than 40 per cent

Tax on savings income remained at 20 per cent with no additional liability for those liable at basic rate.

Higher rate adjustment is displayed on the Tax Code Details screen as a deduction type, because the adjustment is calculated from a mixture of investment income details entered in income, allowances, benefits and deductions, no source amount will be displayed. Use the link to the right of the higher rate adjustment to go to the higher rate calculation screen.

The Higher rate adjustment will still apply to any investment types displayed in IABD where interest is still being deducted by Bank or Building Societies and is not recorded as Untaxed Interest.

From April 2016 dividend income will be charged at different rates: see more information on new Dividend Tax Rates below.

Dividend Tax

From April 2016, the Dividend Tax Credit will be abolished and a new £5,000 Tax Free Allowance for Dividend income will be introduced.

The new rates of tax on Dividend income above the allowance will be –

-           7.5% for dividends taxed in the Basic Rate

-           32.5% for dividends taxed in the Higher Rate

-           38.1% for dividends taxed in the Additional Rate

An allowance will be introduced so that everyone can receive up to £5,000 of Dividend income, on top of any dividends received on shares held in an ISA. If an individual earns less than £5,000 of Dividend they will not pay any tax.