Understanding tax codes is essential for ensuring a payroll scheme runs smoothly and employees are taxed correctly. Tax codes determine how much Income Tax is deducted from each employee’s pay through PAYE (Pay As You Earn). While HMRC issues tax codes, it is the employer’s responsibility to apply them accurately — and to spot potential issues when they arise.
What Is a tax code?
A tax code tells the employer how much tax-free income an employee is entitled to in a tax year. The most common tax code is 1257L, which means the employee is entitled to the standard Personal Allowance of £12,570 (as of the 2025/26 tax year). The numbers indicate how much tax-free income is allowed, while the letters signal specific instructions from HMRC.
Common tax code suffixes include:
- L – Standard Personal Allowance.
- BR – Basic Rate (20%) applied to all earnings; no Personal Allowance.
- D0/D1 – Earnings taxed at higher or additional rates (40% or 45%).
- K – Employee has taxable benefits or unpaid tax that reduces their allowance.
Employers receive an employee’s tax code either through a P45, a starter checklist, or directly from HMRC via a tax code notice.
Why Tax Codes matter for employers
Accurate application of tax codes is critical — not only to ensure the right amount of tax is paid but also to avoid penalties. If you use the wrong tax code, your employee could overpay or underpay tax, leading to potential complaints and corrective action later on.
Employers must also update tax codes when notified by HMRC. Notices can come at the start of the tax year, when an employee’s circumstances change (e.g., new benefits, change in employment), or following a tax review.
Employees with two jobs: how it affects tax codes
If an employee has more than one job — or another source of PAYE income such as a pension — it’s likely their Personal Allowance will only apply to one job. This is typically their main or higher-earning job. Their second income source may receive a BR, D0, or D1 tax code, meaning all income from that employment is taxed at the relevant rate, with no tax-free allowance applied.
Alternatively, their tax code might be split across their jobs or their job and pension so they are taxed on both.
Employers must apply the code HMRC assigns, even if it results in higher deductions. If an employee questions a tax code applied to their second job, they should be directed to HMRC as only HMRC can amend or reallocate allowances between jobs.
Staying Compliant
Here are some practical steps employers should take:
- Always apply the tax code provided by HMRC.
- Use the starter checklist if a new employee doesn’t have a P45.
- Encourage employees to check their personal tax account if they raise tax code queries.
- Keep records of all PAYE submissions and correspondence with HMRC.
Final Thoughts
Tax codes can seem small, but they have a big impact on an employees’ take-home pay and the employer’s compliance. Understanding how they work — especially when dealing with multiple jobs or mid-year changes — helps an employer stay on top of payroll, avoid errors, and maintain trust with the workforce. When in doubt, always refer back to HMRC guidance or speak to us.