Deciphering your tax code and your pay slip

Gareth Fuller/PA Wire

HMRC letters about your tax code and payslips from employers often end up stuffed in drawers and never looked at, but not paying attention to these vital bits of paper could prove very costly.

Here's our guide to understanding your tax code and your payslip to make sure you don't end up paying more tax than you need to.

Why does it matter?

It is pretty common for wither HMRC or your employer to get your tax code wrong, so you need to be sure this gets corrected. A wrong tax code could mean you pay to much tax, or too little. Whilst paying too little might not sound like a problem, once HMRC realise the mistake, you may end up with a nasty bill - a lump sum to pay to make up the deficit.

Making sure everything on your payslip is correct will also help you to figure out if your tax code and the tax you are paying is all in order.

Deciphering your tax code

The first thing to bear in mind that you may have more than one tax code, for each job or pension that you have. Very broadly speaking, to calculate your tax code HMRC divides your tax-free income by 10 and combines this figure with a letter which fits your individual situation.

These letters are as follows:

L: You get the basic personal allowance.
P: You are 65 to 74 and get the full personal allowance.
Y: You are 75 or over and get the full personal allowance.
K: You get no tax-free pay or owe money to HMRC.
T: HMRC needs further information, so cannot allocate another code.
BR: You are taxed at the basic rate.
D0: You are taxed at the higher rate of tax - currently 40 per cent (most commonly used for a second job or pension)
D1: You are taxed at the additional rate of tax - currently 50 per cent (most commonly used for a second job or pension)
NT: No tax is to be taken from your income or pension.
So, if your tax code is 117L that means you are entitled to the basic personal allowance, and an additional £1,170 will be deducted from your taxable income. So if you earn £25,000, you will have £7,475 (this year's personal allowance) plus £1,170 deducted, leaving you to pay tax on the remaining £16,355 (not taking into account tax on savings).

Deciphering your payslip

Your payslip will tell you the money you've earned and what has been deducted from your wages in income tax, national insurance and other payments such as a student loan repayment. To help you decipher these numbers you need to know about your allowances.

The personal allowance for 2011-2012 is £7,475, and for 2012-13 it is £8,105. This means anyone under 65 can earn £7,475 in this tax year, and £8,105 in the following tax year (starting 6 April 2012) without paying any tax.

Earnings between the personal allowance and the higher-rate tax threshold of £34,370 are taxed at 20 per cent. Earnings between £34,371 and £150,000 are taxed at 40 per cent, and earnings above £150,000 are taxed at 50 per cent.

As well as income tax, if you earn more than £7,228 a year, you will also pay National Insurance contributions. These are payable at a rate of 12 per cent of what you earn if that is between £146 and £817 per week. If you earn more than £817 a week - which works out as £42,484 a year - you will also pay 2 per cent on what you earn above this threshold.

Remember that employee benefits like a company car are also taxable.

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