How are K Tax Codes Worked Out?

BikingBud

Is there a simple route to establishing what the code(s) will be and then modelling salary sacrifice to ensure living costs are covered in the most tax efficient manner.

Bookworm105

in what context?
a K code simply means your tax free allowance has been reduced to zero and then increased by the amount of money that will be needed to be taxed at your marginal rate to ensure you pay the amount of tax it is estimated you owe
K1000 - instead of £1,000 tax free, your PAYE calculation will treat your taxable income figure as being 1,000 higher so you pay tax on that larger total 

if you salary sacrifice, then your tax code is irrelevant since the amount sacrificed never enters your PAYE calculation in the first place 

Dazed_and_C0nfused

Bookworm105 said:

in what context?
a K code simply means your tax free allowance has been reduced to zero and then increased by the amount of money that will be needed to be taxed at your marginal rate to ensure you pay the amount of tax it is estimated you owe
K1000 - instead of £1,000 tax free, your PAYE calculation will treat your taxable income figure as being 1,000 higher so you pay tax on that larger total 

if you salary sacrifice, then your tax code is irrelevant since the amount sacrificed never enters your PAYE calculation in the first place 

Wishful thinking!

K1000 means by month 12/week 52 an employee or pension payer will add 10000 onto any earnings or pension before calculating the tax due.

But any tax deducted would be a maximum of 50% of the taxable earnings/pension.

BikingBud

Without providing all figures:

• 2 DB pensions in payment
• Part time job with generous pension matching
• Part time job will take gross income over £50270
• Intent to reduce tax liability and grow pension pot via Sal Sac.
• Limits to Sal Sac yes but also need to ensure the whole tax paid is minimised. 
• I can pay a lot if no Sal Sac and pay a lot less if I Sal Sac
• As I understand the reduced net income from all sources will be taxed via a mixture of 1257L and K code(s).
• I have tried using a couple of on-line resources, and grossing up all income to use 1257L, and then reducing by the Sal Sac amounts but clearly the DB does not incur NI so there will be a discrepancy there and no separate codes are allocated to each source.
• How is the value of the K code determined and does it make any difference how it is allocated, to DB pensions or wage. 

Thanks

Dazed_and_C0nfused

BikingBud said:

Without providing all figures:

• 2 DB pensions in payment
• Part time job with generous pension matching
• Part time job will take gross income over £50270
• Intent to reduce tax liability and grow pension pot via Sal Sac.
• Limits to Sal Sac yes but also need to ensure the whole tax paid is minimised. 
• I can pay a lot if no Sal Sac and pay a lot less if I Sal Sac
• As I understand the reduced net income from all sources will be taxed via a mixture of 1257L and K code(s).
• I have tried using a couple of on-line resources, and grossing up all income to use 1257L, and then reducing by the Sal Sac amounts but clearly the DB does not incur NI so there will be a discrepancy there and no separate codes are allocated to each source.
• How is the value of the K code determined and does it make any difference how it is allocated, to DB pensions or wage. 

Thanks

You have misunderstood a few things.

You cannot have a K code AND and L code at the same time for two different ongoing source of income.

K and L codes are only relevant to whatever HMRC consider your "main" source of income. 
NB.  This isn't necessarily the one with the largest amount of income.

Other source will usually have BR, D0 or a T suffix code.  

Salary sacrifice is limited by NMW regulations.  Whatever you can sacrifice reduces your taxable income and the employer makes additional pension contributions in return.  Note no pension tax relief is due on employer contributions.  But you have less income to pay tax and NI on.

If the salary sacrifice already takes you back to being a basic rate payer then additional relief at source (RAS) contributions don't usually save you any tax.  You get the pension tax relief (25% of whatever your net contribution is) added to your pension but no personal tax saving.

Nothing you have posted suggests a K code would be relevant.

The more likely codes for your 3 sources of PAYE income would be 1257L, BR and BR.  This assumes you aren't Scottish resident and haven't either applied for or are in receipt of Marriage Allowance.

Also, salary sacrifice isn't something HMRC would actively consider when calculating your tax codes.  It's your taxable income at each pension/job which counts.  So if your salary is say £30k and you sacrifice £5k your taxable pay, the bit HMRC are interested in is £25k.  The £30k and £5k are of no interest to HMRC.

BikingBud

Thanks for the feedback it sort of makes sense.


Apologies, on checking last year in a similar position however only one DB pension in payment i had a BR for the pension and a K for my wage. The tax code notice provides a figure for "Less Adjustment to Rate Bands" how is this figure derived?

 If I offer some figures it might help me to understand:

• I stopped working at the end of Mar and the second DB came into payment, 1 Apr.
• Current codes 1257T for DB1 and 0TX for DB2, i expect these would settle as 1257L and BR if left as below £50270.
• Now about to start new role. Example figures:
• DB1 - £38k
• DB2 - £2k
• Salary ~ £40k
• Total Income ~£80k
• Ideal sal-sac to <£10k to give total income <£50k and expect 1257, BR, BR would cover, £5484+7600+400 = £13848 
• However likely limited by NMW. 
• With out Sal-sac - £40k of sal+10270(DB1) = £7500, DB1 - £27730@20%= £5546, DB2 - £2000@20%=£400 - Total £13446 using 1257, BR, BR but this is someway shy I would expect a Total somewhere near £19540. 
• How is the portion over £50270 taxed as BR does not capture this. I was assuming K code as before but unsure how this is calculated.
• What about the mid ground?

Sorry if this all seems simple or I am am completely missing it but the on line K-code illustrations seem to use a known figure from BiK, eg, simple calc of personal allowance -BiK, and I was hoping to understand how the figure is derived for other circumstances and then to model some options.

Dazed_and_C0nfused

Tax codes can get complicated when you have more than one source of PAYE income and are liable to higher rate tax but no one source is higher rate on its own.

What HMRC do then is include the Adjustment To Rate Bands entry in your "main" tax code and leave the other PAYE sources on code BR rather than using code D0, which would mean 40% is deducted (more than is needed).

The adjustment to rate band is only ever an estimate, and is based on the amount of higher rate tax which is due overall and the deduction needed at your main tax code to collect that.

As soon as your estimated earnings from any PAYE source changes the tax code deduction will be out of date so there is usually some tax under or overpaid come the end of the tax year.

Do you know which source is the one HMRC consider your main one, is it DB1?

1257T is unusual (but not impossible) for a main tax code.

zagfles

BikingBud said:

Thanks for the feedback it sort of makes sense.


Apologies, on checking last year in a similar position however only one DB pension in payment i had a BR for the pension and a K for my wage. The tax code notice provides a figure for "Less Adjustment to Rate Bands" how is this figure derived?

 If I offer some figures it might help me to understand:

• I stopped working at the end of Mar and the second DB came into payment, 1 Apr.
• Current codes 1257T for DB1 and 0TX for DB2, i expect these would settle as 1257L and BR if left as below £50270.
• Now about to start new role. Example figures:
• DB1 - £38k
• DB2 - £2k
• Salary ~ £40k
• Total Income ~£80k
• Ideal sal-sac to <£10k to give total income <£50k and expect 1257, BR, BR would cover, £5484+7600+400 = £13848 
• However likely limited by NMW. 
• With out Sal-sac DB1+DB2+10K of Sal = £7540 tax and £30k@40% = £12k - Total £19540 but this couldn't be achieved from 1257, BR, BR. 
• What about the mid ground?
• How is the portion over £50270 taxed as BR would not capture this. I was assuming K code as before but unsure how this is calculated.

Sorry if this all seems simple or I am am completely missing it but the on line K-code illustrations seem to use a known figure from BiK, eg, simple calc of personal allowance -BiK, and I was hoping to understand how the figure is derived for other circumstances and then to model some options.

Why are you so concerned about your tax code values, they are just an attempt to charge you the correct amount of tax based on assumptions, as long as those assumptions are right your tax should be right and can be worked out easily from income totals. If the assumptions are wrong tell HMRC and they'll adjust. 

But anyway, you say "ideal sac to <10k to give income <50k but limited by NMW", so why not just sal sac as much as you can down to NMW and pay the remainder into a personal pension eg a SIPP? You'll get the same tax relief, but no NI relief (so it'll be 40% rather than 48% total). 

Then if you tell HMRC that's what you'll be doing, they'll extend your basic rate and it should then be a simple case of a 1257L code your main income and BR codes on the others. 

BikingBud

Thanks

Made some minor adjustment and caught cross posting. At the moment this is all fluid DB1 is currently 1257T but am hoping, if necessary to set up best once I start the new role.

DB1 and DB2 are pretty much fixed in-year but will be increased every Apr.

I was hoping to Sal Sac ~ 45-50% and was hoping to be able to model a few examples so I can review what I can get now and what might be saved to pension to fill a few years before SPA.

badmemory

I haven't noticed it mentioned but the K code can only take 50% of the income it is set against.  I believe it is often caused by a larger than normal state pension & a larger than normal untaxed at source income meaning any taxable at source income is not sufficient for 50% of it to pay all the tax due.

[Deleted User]

badmemory said:

I haven't noticed it mentioned but the K code can only take 50% of the income it is set against.  I believe it is often caused by a larger than normal state pension & a larger than normal untaxed at source income meaning any taxable at source income is not sufficient for 50% of it to pay all the tax due.

Mentioned by Dazed earlier. By far the most common ‘causes’ of K codes are large BIK and coded underpayments.