A recent Freedom of Information request from a Top 20 accountancy firm revealed some bad news for taxpayers. HMRC was asked about overpaid income tax in 2023/24 and provided an estimate of £3,470 million owed to 5.6 million taxpayers. The accountants pointed to Pay As You Earn (PAYE) tax codes as being one of the major reasons why HMRC’s coffers were being overfilled. If you are employed and/or receive any form of private pension, you will have a PAYE code (or codes for multiple sources of income), calculated by HMRC and sent to your employer/pension provider. You may receive details of your PAYE code by a paper ‘PAYE coding notice’, often issued ahead of a new tax year, but if you did not, it can be checked online via your HMRC Personal Tax Account. The PAYE system was introduced in 1944, and the PAYE code remains a cornerstone of HMRC’s effort to collect the right amount of income tax from you, particularly if you are outside the self assessment tax regime. While the PAYE code is a single number, underneath it is a calculation which totals: Your tax-free allowances: This will include your personal allowance (if you are entitled to one) for each income source and any other tax-free allowances, such as tax-deductible expenses related to your work. Deductions for tax: This can cover taxable benefits, such as company cars, tax due on estimated untaxed interest for the current tax year and the collection of underpaid tax from previous tax years. The way in which that underpaid tax is collected often causes confusion, as it involves an HMRC estimate of your marginal rate of income tax. For example, if you are a 40% taxpayer and you owe HMRC £1,000 in tax, the deduction in your coding calculation will be £2,500 as £2,500 @ 40% = £1,000. If you think any element that goes into your PAYE code is wrong – perhaps your new company car is electric and has a lower taxable value – contact HMRC, not your employer (or pension provider), as only HMRC can alter your code. Notes: Tax treatment varies according to individual circumstances and is subject to change. The Financial Conduct Authority does not regulate tax advice.

Salary sacrifice has become an increasingly common way for employees to make their pension contributions, with most major employers offering schemes. It currently has some important advantages for employees over choosing to pay contributions from the after-tax salary: There are no employee national insurance contributions (NICs – at up to 8%) on the salary sacrificed. Similarly, there are no employer NICs (generally at 15%) on the salary foregone. A part of this saving – or possibly all of it – could find its way into enhancing the pension contribution. Full income tax relief is effectively received immediately, whereas, in many instances, tax relief on personal contributions may be only at the basic rate initially, with the balance reclaimed later from HMRC. While the income tax relief will remain unchanged from 2029/30, the NICs exemptions will be capped on the first £2,000 of sacrificed salary. Example of salary sacrifice reform The example below shows how salary sacrifice works now and how it will work from 2029/30 for a higher rate taxpayer (outside Scotland). The employee chooses to divert £5,000 of their salary to a pension, with their employer putting two-thirds of their NICs saving (10% out of 15%) towards the pension contribution.

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The pros and cons of withdrawing a lump-sum from your pension