Guide to PAYE
We hope our Guide to PAYE will assist you - click on a link to read more information on that subject:
- PAYE Outline
- What else is subject to PAYE (and what isn’t)?
- How is the PAYE code worked out and what do the numbers and digits mean?
- Leavers and Joiners
- Disclaimer
1. PAYE Outline
The PAYE system enables income tax to be deducted from employment and pension income, jobseekers allowance and incapacity benefit. UK State pensions are not taxed under PAYE.
Broadly, payments made in any form other than benefits-in-kind are treated as employment income and are liable to PAYE. Employment income is subject to PAYE when the payment is actually made or when the employee becomes entitled to the payment. So in the case of a director for example, when a credit is made to his director’s loan account against which he may draw funds.
An individual who now resides abroad may be subject to UK PAYE e.g. on a pension paid in respect of duties which have been performed in the UK.
2. What else is subject to PAYE (and what isn’t)?
- Benefits-in-kind, not being payments in money, cannot be subjected to a deduction of tax but may be taken into account in determining the employee’s PAYE code.
- PAYE need not be applied to travelling expenses paid to an employee where they simply reimburse the actual costs of business travel or are based on a scale rate designed to do no more than meet expenses incurred (such a scale has to be agreed with the Revenue). Round sums of expenses must be subjected to PAYE although an advance that is subsequently accounted for need not be.
- Contributions by employers to approved occupational pension schemes are not subject to PAYE. A deduction is permitted for allowable pension contributions before PAYE is applied.
- Qualifying removal expenses are not liable to PAYE.
- Tips received by an employee directly from a customer are employment income but are not subject to PAYE; instead the individual employee should declare them to the Revenue. But if the employer operates a scheme under which he collects and pays the employees’ tips then PAYE must be applied to those tips. In certain circumstances the employees may form a collective of their own to receive the tips and distribute them to its members. Such an organised arrangement is known as a Tronc. It must appoint a Tronc master who is responsible for the operation of PAYE on the tips.
- Holiday pay is subject to PAYE when it is paid to the employee.
- Sick pay received, including statutory sick pay, will be taken into account for PAYE purposes.
- Certain notional payments are also subject to PAYE including gains from employment related options and readily convertible assets, including cash vouchers.
- Redundancy pay over the statutory maximum is subject to PAYE. Some redundancy/severance pay which will not qualify for the exemption at all; typically where there is a contractual entitlement to it.
3. How is the PAYE code worked out and what do the numbers and digits mean?
The PAYE code is the amount of the total yearly personal allowance less any applicable reliefs and deductions, but without the last digit.
The 08/09 personal allowance is £5,435 and therefore that basic code for 08/09 will be 543. A letter of the alphabet follows the code - a suffix that enables the employer to make an automatic adjustment if the personal allowances are increased generally.
Those currently in use are: -
L - basic personal allowance included
B - personal allowance included for an employee aged 65-74
Y - personal allowance for an employee aged 75 or over
T - there are other items that the Revenue need to include. (The employee may also request a T suffix so their age is not disclosed.)A code may also be applied on a week 1 or month 1 basis which means that the tax is not deducted on an accumulative basis. Typically known as an emergency code it is normally used where the employee does not have a P45 to bring to his new employment.
In addition to employment or pension income, the employee may have other income, for example another employment or income source e.g. self-employment, against which his personal allowances may already be given, in which case the Revenue may issue one of the following codes which means that tax will be deducted without any deduction for free pay: -
OT - tax to be deducted at the starting, basic and higher rates as appropriate;
BR - requires tax to be deducted at the basic rate;
DO - requires tax to be deducted at the higher rate;
NT - indicates that no tax need be deducted;
K - is a negative code meaning that the deductions from the personal allowances exceed those allowances which has the effect of increasing the amount of pay to which PAYE is to be applied.In calculating the code the Revenue must take into account the reliefs to which the employee is entitled for the year concerned. Those reliefs include: -
- Personal allowances;
- Expenses incurred in the performance of the duties of the employment;
- Charges on income and interest paid qualifying for relief;
- Any adjustment for tax overpaid for an earlier year which has not been repaid.
The total of the reliefs is reduced by any PAYE income of the employee including:
- Income from a part-time job, a State Retirement pension and benefits-in-kind;
- Tax underpaid in the previous year;
- Any other income which is not PAYE income e.g. buy-to-let property rental income (unless the employee objects).
If an employee’s circumstances change during the tax year so as to affect his allowances and reliefs then they must advise the Inland Revenue. The Revenue will issue a revised Coding Notice where appropriate.
If an employee is not entitled to receive any pay on a normal pay day because he has been absent from work then the employer must normally enter a payment of nil and repay any tax due to the employee.
4. Leavers and Joiners
When an employee leaves he must be given a P45 which is a certificate that gives the leaving date, the gross pay to date in the Tax Year, the tax deducted and the Code applied.
The employee should keep part 1A and hand parts 2 and 3 to his next employer or alternatively to the Job Centre. An employee who does not immediately take up other employment and does not claim Jobseekers Allowance may obtain a refund, but it can normally only be claimed after the end of the Tax Year.
If a new employee does not give their new employer a P45 they must complete a form P46 which the employer will submit to the Inland Revenue to enable them to issue a PAYE Coding Notice.
5. Disclaimer
While we hope the above has been found to be useful it is intended only as a general guide, may not reflect the very latest developments in tax law, and cannot be a substitute for professional advice.
We cannot accept any responsibility for loss occasioned to any person acting or refraining from acting as a result of material contained in this guide.