The UK's Pay As You Earn (PAYE) system is a cornerstone of our tax regime, but it's also the source of many common misunderstandings. From tax codes to emergency tax, separating fact from fiction is crucial for managing your personal finances. This article busts some of the biggest PAYE myths.
This is one of the most widespread PAYE myths. While a wrong tax code can certainly lead to paying the incorrect amount of tax, it doesn't automatically mean you are overpaying. A tax code that's too high might mean you're underpaying, which will lead to a tax bill later. Conversely, a code that's too low might mean you're overpaying, but you will receive a refund from HMRC.
The Reality: Your tax code is simply a tool. The important thing is to ensure it is accurate. You can check your tax code on your payslip, P45, or P60, and it's always a good idea to verify it with HMRC. If it's wrong, contact HMRC directly to get it corrected.
Many people treat Income Tax and National Insurance as completely unrelated taxes. In reality, they are both part of the PAYE system and are designed to work in tandem to fund different parts of the UK's public services.
The Reality: While they are calculated and used for different purposes, they are both deducted from your gross salary under the PAYE umbrella. National Insurance Contributions (NICs) fund state benefits, such as the State Pension, while Income Tax funds general government spending. Your payslip will show both as separate deductions from your gross pay.
Many people believe that once PAYE has been deducted, their tax liability is final. This is not true. While PAYE is designed to be as accurate as possible, it is an estimate based on your current circumstances.
The Reality: You can legally reduce your taxable income after it's been deducted. For example, if you make a personal pension contribution, you can receive tax relief. For basic rate taxpayers, this is automatically added by your pension provider. However, higher and additional rate taxpayers must claim the additional relief through a Self Assessment tax return.
Additionally, if you have an incorrect tax code that has led to overpayment, HMRC will either refund you directly or adjust your tax code to give you the money back over the rest of the tax year.
Being put on an emergency tax code can be alarming, but it is not a punishment or an indication of an error on your part. It is simply a temporary measure used by HMRC when your employer doesn't have a correct, up-to-date tax code for you. This often happens when you start a new job or have multiple jobs at the same time.
The Reality: An emergency tax code is designed to ensure you pay some tax on your earnings until HMRC can provide your employer with the correct tax code. Once your correct code is applied, any tax you have overpaid will be refunded to you.
Think your tax code might be wrong?
Use our free and accurate PAYE calculator to see if your deductions match your salary and tax code, giving you the information you need to check with HMRC.
While you get several tax allowances, such as the Personal Allowance, Dividend Allowance, and Capital Gains Tax Allowance, they are not all deducted from your income in the same way.
The Reality: The Personal Allowance is the only one automatically used to reduce your PAYE tax on your main salary. Other allowances, such as for dividends or capital gains, are applied separately against those specific types of income. This is why it's crucial to understand all of your income streams to get a full picture of your tax liability.
Understanding how PAYE works and knowing the difference between a myth and reality empowers you to manage your finances better. By regularly checking your tax code and being aware of how tax-efficient schemes can work for you, you can ensure you're only paying what you owe and nothing more.
Need a detailed breakdown of your PAYE? Use our calculator.