Tax Codes – What do they mean and how do I know if it’s right?

For the millions of employed people in the UK (31.2 million in the three months to April 2021), their tax code is an important piece of information – defining how much you are allowed to earn without paying tax for the year, so it’s important that it’s right, but how do you tell? If it’s wrong you could end up overpaying tax or worst still underpaying and having an unexpected tax bill later on.

Well the first step is to understand what it means. The gov.uk website provides some useful information on this, but in short the numbers tell you how much you can earn tax free this year, you just need to add a zero. So, the default code for 2021-22 is 1257L, meaning you can earn £12,570 before paying tax. The L at the end means you’re entitled to the standard tax-free allowance, but there’s others such as M or N (used for marriage allowance transfers) and W1, M1 or X which are emergency codes. Codes can also have a prefix, K representing you’ve got a negative allowance, C meaning you live in Wales and are subject to their tax rates and S for Scottish residents using the rates in Scotland.

The emergency tax codes we mentioned, W1, M1 or X are used generally after a change of circumstances, such as starting a new job or changing from self employed to employed. They mean that your tax is based solely on what you earn that period, not the total of what you’ve earned that tax year. More on that in a moment.

So if you don’t know of any reason you need to pay more tax, such as a miscalculation the year before that’s being corrected through your tax code, then you should expect to see a 1257 code (for this tax year 2021-22).

So, if you know your tax code then you then know how much tax you can earn tax free in that year – but how does that relate to your pay? Well lets assume you get paid monthly. Your tax free allowance is then divided by 12 to give you £1047.50 tax free per month, so someone earning £1200 per month would only pay tax on £152.50. If you’re paid weekly, the allowance is divided by 52 to give you your weekly allowance of £241.73.

As wages can vary, the amounts you’ve earned and your tax free allowance are totalled for the year to date each month, helpfully shown on payslips. This is helpful when things change during the year.

Now this bit might be a bit confusing for some, if that’s you then don’t worry! For example, someone earning £1,000 per month wouldn’t pay any tax, as it’s less than their £1,047.50 allowance. But if after 3 months they got a pay rise for their July pay, taking their wages up to £1,150 for the month, the £47.50 tax free allowance they’ve not used each month will have rolled forward. So when their tax is calculated for that month, it will be on the total for the year, so earnings of £4,150 with a running total tax free allowance of £4,190. This means they’d again pay no tax. However, the following month their earnings to date would go up to £5,300 for the year, but their allowance would only go up to £5237.50, meaning they’d have to pay tax on the remaining £62.50.

So going back to our emergency tax codes, by having the W1 or M1 suffix, it means that your pay for the month is treated as if it’s the first month or week of the tax year (hence W1 and M1), so no rolling forward of your wages or tax free allowance – although this calculates your current month fine it could mean you underpay or overpay for the year, depending on what else you’ve earned over the year.

Hopefully by understanding what the tax code means you’ll be able to know if it’s right or wrong, unfortunately without knowing your personal circumstances it’s very hard for us to advise if it’s right or not but you can use the HMRC’s tools to help you with this, they can be found on the previously mentioned HMRC webpage.

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