What is PAYE?
PAYE - or 'pay as you earn' - refers to income tax which is deducted from your salary before you receive it.
Introduced in 1944, this is now the way most employees pay income tax.
The money is sent to HMRC by your employer ‘at source’ – meaning directly from your pay before it reaches your account. National Insurance and student loan repayments may also be deducted in this way.
The alternative way to pay income tax is self-assessment, whereby individuals complete a self-assessment tax return and normally pay tax once or twice a year.
- Complete your 2017-18 tax return with the Which? tax calculator. Tot up your tax bill, get tips on where to save and submit your return direct to HMRC with Which?.
How is PAYE calculated?
PAYE is calculated based on how much you earn and whether you're eligible for the personal allowance.
The personal allowance is the amount you're able to earn tax-free each year. In 2018-19, the personal allowance is £11,850; in 2019-20 it will be £12,500.
Above the personal allowance, you’ll be charged at either 20%, 40% or 45% depending on whether you’re a basic rate, higher rate or additional rate tax payer. The rate you pay will be determined by your income.
The PAYE tax rates and thresholds for 2018-19 apply everywhere in the UK other than Scotland – these are illustrated below. If you live in Scotland, read our guide on Scottish income tax for more information.
Note that your personal allowance will reduce by £1 for every £2 you earn over £100,000.
PAYE is generally split into equal payments over the year. If it turns out that you’ve paid too much tax at the end of the year, you’ll receive a refund from HMRC. If you’ve paid too little tax, you’ll get a bill asking you to pay more.
To work out how much tax you'll pay in 2018-19, or 2019-20, use our income tax calculator.
PAYE on your pension
PAYE is also used to collect tax from those who receive pension income. The money you receive is paid net, meaning after tax has been deducted.
Tax you owe will be collected by your pension provider (normally a pension scheme or annuity firm) and forwarded to HMRC. Your pension provider will also deduct any tax you owe on your state pension.
If you get payments from more than one provider - for example, a workplace pension and a private pension - HMRC will ask just one to take out the tax for your state pension payments.
How often tax is deducted depends on how often you’re paid.
Some points to remember:
- If your only income is from the state pension: you must send in a self-assessment tax return to HMRC.
- If you continue to work while you are receiving your state pension: your employer will deduct PAYE you need to pay from your earnings, and PAYE you earn from receiving the state pension.
- If you have other income, it is is your responsibility to declare it and you may need to file a self-assessment tax return. Read our guide on who should submit a tax return for more information.
Find out more: State pension explained - find out how the State Pension works and how much you might receive
PAYE when you're self-employed
People who are self-employed commonly fill out self-assessment income tax forms once a year, and make two ‘payment on account’ deposits to HMRC in January and July.
In some circumstances, however, you can pay tax through PAYE instead – which means your tax is paid automatically and there's no danger of missing a deadline.
You can pay your self-assessment bill through PAYE if:
- You owe less than £3,000 on your tax bill.
- You already pay tax through PAYE – for example, if you’re an employee or you get a company pension as well as earning income from self-employment.
- You submitted your paper tax return by 31 October or your online tax return online by 30 December.
If you meet these conditions, HMRC will automatically collect what you owe through PAYE unless you ask them not to on your tax return. If you’re not eligible on all three points, you will have to pay by instalments instead.
We explain everything you need to know in our guide to income tax for the self-employed.
- Get a head start on your 2017-18 tax return with the Which? tax calculator and submit direct to HMRC.
PAYE and your P60
At the end of each tax year (5 April), you will receive a statement, called a P60, from your employer or pension provider showing the gross total amount of money you've been paid, what tax has been deducted and how much net income you have received after this.
Where you have more than one employer, or more than one pension provider, each one should send you a separate P60 End of Year Certificate.
Check all P60s you receive to make sure you've paid the correct amount. If you think you might have paid too much tax, check HMRC’s income tax checker service and contact it to amend your record.
PAYE and your payslip
You can see how much PAYE tax you’ve paid, along with your PAYE tax code, on your payslip – it will be listed along with your National Insurance contributions and student loan repayments.
The example of a payslip below includes the most common deductions from your salary.
Here, we also explain the most common deductions you're likely to see on your payslip:
In the example above, PAYE income tax is charged at 20%, less a personal allowance of £11,500 (for the 2017-2018 tax year). This is signified by tax code 1150L.
The payment also includes a company pension contribution of £100.
National Insurance is deducted each pay period if your earnings are over a certain amount. In 2017-18, the threshold was £8,164 (so £157 a week or £680 a month).
Although some payments, such as pension contributions, qualify for income tax relief, you will still need to make National Insurance payments. Reimbursed expenses that are free of income tax are not automatically free of National Insurance.
The general rule is that if the reimbursement is a distinct payment specifically aimed at reimbursing, or making a contribution towards, expenses that you have actually incurred, then the payment should be National-Insurance-free.
However, some expenses are always National-Insurance-free. This includes mileage allowance up to HMRC-approved rates if you use your own car for work, and operational and mess allowances and council tax relief payments for members of the Armed Forces.
Find out more: National Insurance explained - more on how this tax works.
This may include contributions to your employer's pension scheme (including any voluntary contributions) or contributions that will be passed to a personal pension provider.
These contributions are taken out of your pay 'at source', and therefore you do not pay tax on them.
Student loan repayment
You’ll be on either Plan 1 or Plan 2, depending on when you went to university.
Plan 1: If you started university before 1 September 2012, you’ll start making student loan repayments once you’re earning £17,335 a year (or £1,444 a month). This threshold tends to increase at the start of every new tax year.
Plan 2: If you started university in England or Wales after 1 September 2012, the student loan repayment threshold currently stands at £21,000 a year (or £1,750 a month).
Repayments are worked out as 9% of your income above the threshold, rounded down to the nearest pound.
Other deductions could include subscriptions to a trade union, or deductions under a court order to repay debts or pay child maintenance.
Though you pay income tax on most of your earnings (including overtime, bonuses, commission, tips and holiday pay), some payments from your employer are tax-free.
These do not count towards your taxable income, and do not have to be declared if you are sent a tax return.
- reimbursed expenses for which your employer has a formal agreement (a ‘dispensation’) with HMRC
- reimbursed expenses where your employer makes a voluntary agreement with HMRC to pay tax on your behalf
- mileage allowance up to HMRC-approved rates (45p per mile for the first 10,000 business miles and 25p per mile thereafter) if you use your own car for work
- payments of up to £4 per week or £18 per month for extra household costs if you regularly work at home by arrangement with your employer (your employer may pay more if you can supply evidence that it is justified)
- various allowances paid to members of HM forces, for example: operational allowance for members serving in combat zones, such as Afghanistan; mess allowance and travel to and from leave expenses; and council tax relief payments.
Find out more: Tax-free income and allowances
Tax-free lump sums
Extra payments, such as bonuses, from your employer are normally treated as salary and taxed in the normal way. However, some lump-sum payments are tax-free. These include:
- money your employer pays into a registered pension scheme or uses to buy an annuity for you
- most lump sums from a registered employer’s pension scheme, including death benefits paid to your dependants
- pension gratuities you receive on leaving the armed forces
- the first £30,000 of most redundancy payments
- compensation paid by your employer if they break your contract, but not pay in lieu of notice if it is part of your contract or customary
- compensation for an injury or disability that means that you are unable to continue with your job
- suggestion scheme awards under formal schemes and up to a maximum £25 if your idea is not adopted, or £5,000 if it is relocation expenses up to a maximum of £8,000.
A genuine personal gift from your employer – for example, on getting married – is also tax-free, but the onus will be on you to show that it really was personal and not as a result of your being an employee.
If there is no income tax on a lump sum you receive, there will usually be no National Insurance contributions either.
Solving your PAYE problems
We give answers to some of the most common issues encountered with PAYE.
How will I know if I haven't paid the right amount of PAYE?
HMRC will send out a P800 tax calculation form after the tax year ends on 5 April, which you should receive by the end of November.
This will show how much tax is due to be refunded, or is owed for previous years.
You’re more likely to receive a P800 letter if:
- You had an overlap in pay after leaving one job and starting another, being paid by both employers in the same month.
- You started receiving a pension at work.
- You received Jobseeker’s Allowance or Employment and Support Allowance.
I haven't paid enough tax
If you haven’t paid enough tax through PAYE, this will usually become apparent to HMRC at the end of the tax year.
To rectify this, it will adjust your tax code for the following year – often resulting in a reduced personal allowance, so you pay tax on a larger proportion of your salary.
The maximum amount that can be collected in this way is £3,000 – if you owe more, HMRC will expect a direct payment to cover the amount of tax owed.
In some cases, taxpayers can appeal this payment on the grounds that the tax authorities had the full details of their earnings, but failed to act on them in time (Extra-Statutory Concession A19).
I've paid too much tax
If the P800 form shows that you’ve paid too much tax, HMRC will usually refund this by sending you a cheque in the post.
You should receive this payment by the September after the end of the tax year.
If you believe you've overpaid in tax, but HMRC has not refunded you, contact them directly to claim a refund or file a claim online.
Why have deductions reduced my personal allowance?
If you receive taxable benefits from your employer (such as a company car, a loan above £5,000, living accommodation or medical insurance), the value of these is treated as additional income and taxed accordingly.
To adjust the amount of tax you pay each month, HMRC will reduce your personal allowance. This means you’ll pay tax on a larger proportion of your salary.
What if deductions exceed my personal allowance?
If you’ve underpaid tax in previous years, your tax code may be amended with a ‘K’ and a number indicating how much extra tax you need to pay.
For instance, if you owe £11,800 in tax, and have a personal allowance of £11,500, the K code will be K25.
This is because you owe £300 more than your personal allowance. Split over a year - £300 divided by 12 – you’ll then be taxed as if you earn £25 more each month than you actually do.
That way, you’ll be taxed on £300 extra throughout the year and make up for the shortfall.