Defence against a tax

Anthony Bailey's guide to code breaking for beginners
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The Independent Online
FIFTEEN million people have received notification of their tax codes for the coming tax year in recent weeks. If the past is any guide, a sizeable number of these codes will be wrong.

Codes are used to collect tax under PAYE from employees and those receiving private pensions. Notices just sent out take effect from 6 April; so there is still time to scrutinise them.

The Inland Revenue gets a lot of stick for wrong codes, but part of the blame may lie with employers who have sent inaccurate information or with taxpayers who have not kept their tax office up to date. For example, you have to tell the tax office when you marry in order to get the married couple's allowance.

Another problem is that codes can be based on old information. For example, you may no longer have a company car but it can take a long time for your tax office to be told this by your employer. To cut out the delay, tell your tax office yourself.

A coding notice (see right) has two columns. On the left are tax-free allowances, on the right items on which tax has to be collected (other than your pay).

One big area of confusion in the right-hand column is the 'ALLCE [allowance] RESTRICTION'. This applies to the married couple's allowance, the additional personal allowance, the widow's bereavement allowance and tax relief for maintenance payments. These allowances are pounds 1,790 in the 1996-7 tax year. Most allowances have the effect of saving tax at your top rate of tax, but not these ones. Here the tax-saving is just 15 per cent of the allowance - worth pounds 268.50 in the 1996-7 tax year - regardless of your tax rate (or for those who are 65 or older 15 per cent of the higher married couple's allowance). The restriction taxes more of your pay to keep the overall tax saving on these allowances to 15 per cent. The restriction appears as pounds 447 for 20 per cent taxpayers, pounds 670 for basic-rate taxpayers and pounds 1,118 for higher-rate (40 per cent) taxpayers. But it may be wrong if your income takes you just a little way into a higher tax band. You may have to check this at the end of the tax year.

Look carefully at the figures for benefits. Some benefits in kind from employers, such as company cars, luncheon vouchers in excess of 15p a day, medical insurance and so on are taxable. Your tax office gets the details direct from your employer. If any of the figures on your coding notice appear to be wrong it may be best to check with your employer first what details have been submitted.

Older people will find a figure for the state pension. This is taxable but is paid without the tax being deducted. There could also be a figure for your estimated income. Make sure that you agree with it. Higher age- related tax-free allowances are reduced once total income is more than pounds 15,200 (in the 1996-7 tax year).

To get the actual tax "code" you add up the figures in each column and deduct the right-hand benefits total from the left-hand allowances total to give the amount of 'net' tax-free allowances you are left with. Knock off the last figure from the answer and you get the code giving your tax- free pay. If, for example, the number is 376, you are probably just getting the basic personal allowance of pounds 3,765. In this case you may not even be sent a notice. Notices are usually only sent to people with tax complications.

Our example coding notice, supplied by the Inland Revenue, actually shows a negative figure - items on which tax has to be collected exceeds allowances. The letter 'K' here indicates a negative number. Pay will be taxed at a higher than normal rate. Other letters in codes give various bits of information. For example, 'L' means that you get the basic personal allowance, 'H' that you get the married couple's allowance as well. But it is the number which affects how much tax-free pay you get.

The codes (but not the details of how they have been worked out) are sent to your employer who then uses them to deduct the appropriate amount of tax.

If you have more than one job you will have different codes for each. Basic rate taxpayers are likely to get a 'BR' code for second jobs - every pound will be taxed at the basic rate. There are no numbers in the code, because all tax-free pay will have been accounted for by your main job.