Tax & Admin

What to do when you’ve been taxed and believe you shouldn’t have

Allison S Robinson | 5 November 2021 | 3 years ago

I've been taxed when I shouldn't have. Here’s what to do

Commonly people may be taxed when they have not earned their tax-free allowance yet, and then believe that they have been taxed incorrectly. On occasions it may be due to an error, incorrect tax code or something else. Here is some advice regarding how the PAYE tax system works in the UK and what to do when income tax seems to have gone wrong.

Cumulative tax basis

The HMRC has set up the nation’s tax-free allowance system as an annual allowance, but the calculation of it is applied to a company’s payroll system on a monthly basis or on a weekly cumulative basis.

With 3 different factors involved, this is a surefire way of opening things up for confusion. And true to form, this has created a great deal of confusion.

The confusion starts early on in a person’s career. As you start your new tax year, fresh-faced and full of enthusiasm, you might get a shock when you see your payslip for the very first pay period of the tax year. It might show that tax has been deducted from your earnings, and the tax-free allowance question springs to mind, despite the fact that your earnings are way below your annual allowance. Therefore, the question arises: Why are your earnings tax applied by the HR system or HMRC?

Before racing off to strip a piece off of HR or the person reponsible for your payroll, read on.

It all depends on the company’s pay cycle

First things first – payroll is not a system that runs just once a year, i.e. annually. The payroll system is set up to run on business appropriate and employee budget appropriate cycles. Therefore, the payroll system will be set by the employer to run on a monthly basis. There are some industries that traditionally run weekly wage payrolls, and temporary staff are often on weekly wages as well. Some companies are also choosing to do fortnightly payrolls.

The result of this is that any tax-free allowance is extrapolated and shared evenly across the entire year’s pay cycle. This means it is not allocated fully to the first month, then any leftovers are allocated to consecutive months, and so on.

In reality, this translates into the tax calculated on month 1, or week 1 or fortnight 1, of the company’s pay cycle, which is being calculated on a high-level overview of earnings. It is based on the amount that the employee should have paid after deducting 1/12 ( 1 month’s worth out of 12 months) or 1/52* (1 week’s worth out of 52 weeks*) or 1/26* (1 fortnight’s worth out of 26 fortnights) of the annual tax allowance.

What does this mean for you?

If your company is operating on a weekly payroll cycle, you will be given a 1/52 slice of your allowance each week, and a monthly payroll cycle will result in you getting a 1/12 slice of your annual tax-free allowance each month.

As each month passes, you will get another “monthly slice” or “weekly slice” of the annual tax-free allowance each pay period. The tax, therefore, is calculated on the current position, not the forecasted position. This means your tax will be calculated on your current status of how much payroll has paid across to you year-to-date.

And this is what is referred to as a cumulative tax basis. Because of this, the company’s payroll will be withholding tax from your income every month, and that is why you will always be paying tax.

Cumulative tax basis example

It is much easier to understand financial explanations when it is done using examples:

  1. The tax code being used as an example is 1150L. This code has an annual tax-free allowance of GBP 12,750 (1275 x 10). See the HMRC table below.
  2. The employer operates their payroll on a weekly basis. Employees will therefore have their annual tax-free allowance divided up over 52 weeks.
    1. GBP 12,750 / 52 calculates out to a weekly tax-free allowance of GBP 245.19
  3. The tax-free aspect of that GBP 245.19 remains intact, and it is completely tax-free, charged at a rate of zero per cent. Next, the HMRC looks at any amount that is earned over and above the GBP 245.19, and that amount above that threshold is taxed.
  4. If you earned GBP 300 and your PAYE tax rate is twenty per cent, this rate will be applied to the difference between the GBP 300 and the tax-free allowance for that week.
    1. GBP 300.00 – GBP 245.19 = GBP 54.81.
    2. GBP 54.81 * 0.20(PAYE tax rate ) = GBP 10.96
The important, frustration-easing point to remember is that tax has not been applied to the entire amount of GBP 300.00. It has only been applied to amounts that are above your monthly slice of tax-free allowance.

HMRC tax-free allowance table

“The Personal Allowance is the amount of income a person can get before they pay tax.” HMRC.

 

Allowances 2021 – 2022 2020 – 2021 2019 – 2020 2018 – 2019
Personal Allowance GBP 12,570 GBP 12,500 GBP 12,500 GBP 11,850
Income limit for Personal Allowance GBP 100,000 GBP 100,000 GBP 100,000 GBP 100,000
The Personal Allowance goes down by GBP 1 for every GBP 2 of income above the GBP 100,000 limit. It can go down to zero.

Why does the HMRC split up the allowance?

The aim of processing tax-free and taxable income like this through payroll might seem complicated, but it is actually a good way of simplifying the tax collecting process.

If your tax-free allowance was only applied to your first paycheck or first few paychecks, then the HMRC, and you, run a much higher risk of you underpaying on your tax. This risk is amplified if you have more than one employer throughout each of the tax years. This is the HMRC’s attempt at preventing the underpayment of taxes and the big financial impact on employees who might have to scramble for extra funds at tax year-end to plug a tax gap.

Week 1/Month 1 basis

Don’t panic if you suddenly receive notification that HMRC is updating your current tax code to a week 1/month 1 basis. It is a correction process and is temporary, albeit medium term.

The key effect of a 1/month 1 basis system is that any of your previous wage or salary payments you have received are not taken into account when your pay is calculated for tax purposes. It also does not take into account any tax you might have paid throughout the year when the tax is being calculated on your current pay. It is a narrow snapshot of income, freestanding and not cumulative.

When does the week 1/month 1 basis get activated?

The Week 1/month 1 system is mostly activated when there is a suspected underpayment of tax from some time earlier in the year. It can also be activated if you have different jobs and your tax calculations are highly complex. The last reason it is activated is if HMRC is looking into and reviewing your tax account.

The Week 1/month 1 system will calculate your taxes only on the payroll amount that you have earned for a specific week or month. When the annual assessment is done at the end of the tax year, HMRC will review your tax account and will notify you if you have paid too much tax or if there has again been an underpayment. You are sent a statement that will clearly show whether you must action another payment or process a refund request for any overpayments.

Does National Insurance work like cumulative tax?

Yes, the National Insurance system does work in a very similar manner. The Nation Insurance earning thresholds, however, might vary from one year to the next. The current rates and information can be found online on the HMRC website.

Even if your annual salary might bring you below the tax-free allowance, this does not translate directly across to National Insurance. You might have National Insurance deducted from your incomes because the thresholds for that system are considerably lower as it is linked to benefits.

Why might my tax code be wrong?

It is not unheard of that an individual happens to be issued with an incorrect tax code. The reasons why this could occur might include these examples:

  • Have you recently changed jobs?
  • Has your entrepreneurial spirit inspired you to start a second job?
  • Has there been a change to your state benefits?
  • Has there been a change to your company benefits?
  • Do you get rental income or some similar additional income that is not taxed?
A simple call to HMRC can rectify it. Update them about the details of your current circumstances, and if they agree with your assessment of your tax code, they will change their records. Your employers will receive a new tax code notice directly from HMRC.

Can I check up on my tax code?

Yes. The easiest way to see it is to look at your most recent wage slip. It will also appear on your P60.

If you have multiple jobs with different tax regulations, you will have multiple tax codes. When calculating your overall tax amount, you will need to do a separate check up on each individual code, its thresholds, rates etc.

What must I do if I think I’m paying the wrong amount of tax?

So, you have worked through the above calculations, checked the current Personal Allowances, checked your tax code, and your conclusion is that you are being taxed the wrong amount.

Step one would be to contact HMRC directly to confirm your information. You could also request an assessment from your tax office.

If you believe that the overpayments have occurred over multiple tax years, then you may need to provide P60s for the years involved in the overpayments. Don’t send in your original documents, it is prudent to make facsimile copies of these documents. Protect those originals.

How do I claim a tax refund when an overpayment is confirmed?

So you have discussed your overpayment assessment and have presented documents to HMRC or your local tax office. They will have spent time considering your file, and then they will issue you with a confirmation of whether they agree or disagree with your assessment.

If they agree with your assessment, then you can start your tax refund or rebate request. Don’t do it before the latter process. They will provide you with the relevant process to follow in order for you to claim your money back, which will be either:

  • Complete and submit a form in order to complete your refund.
  • Process an online claim.
  • Or they might issue it directly.
They often ask for additional information as something was left out of the original submission.

Note #2: If you are considering using a third-party site or service to help you claim a rebate, don’t. You should never be charged for such a service as it is offered for free by HMRC. Go directly to HMRC for your claims.

How long will it take to claim a tax refund?

When HMRC or the tax office has evaluated your inquiry, you might be issued with a new tax code depending on the issues found. In that instance, your refund will simply be added to your monthly salary via the payroll cycle.

All in all, the refund usually takes up to 5 weeks, but a circumstantial anomaly might make it take longer. If you need your refund urgently, you should contact HMRC directly.

How much tax should I be paying?

A basic-rate taxpayer can expect to have thirty-three per cent of their taxable income redirected into tax accounts.

This is not all income tax that we are referring to; there are different types of tax. Of course, the list starts with PAYE and National Insurance – these usually represent around about twenty per cent of your income. Income tax can also be charged on benefits such as company cars or private health insurance. The indirect taxes that are then recouped are VAT, petrol and alcohol duty and council tax.

England, Wales and Northern Ireland

England, Wales and Northern Ireland are split into three income tax bands:

Band 1

Taxable income up to GBP 37,700 = basic-rate taxpayer rate at twenty percent.

Plus the 2021 personal allowance of GBP 12,570 = GBP 50,270 basic-rate taxpayer earnings threshold .

Band 2

Taxable income of over GBP 50,270 = forty percent tax rate.

Band 3

Taxable income of over GBP 150,000 = forty-five percent tax rate.

Scotland’s Tax

Scottish income tax rates are different. In addition, there are more tax bands:

Tax rate Earnings Rates
GBP 12,570-GBP 14,667 Starter rate Nineteen percent
GBP 14,667-GBP 25,296 Scottish basic rate Twenty percent
GBP 25,296-GBP 43,662 Intermediate rate Twenty one percent
GBP 43,662-GBP 150,000 Higher rate Forty one percent
GBP 150,000+ Top rate Forty six percent
 

Does everyone have to complete a Tax Return?

In the majority, United Kingdom taxpayers are taxed at source, and therefore there is no requirement for a person to do a Self Assessment Tax Return.

What does ‘Taxed at source’ mean? This means that the money you receive, monthly, weekly or fortnightly, has already had the correct amount of tax deducted from it. Your payslip will show the wages you get from an employer, and it will also show the Pay As You Earn (PAYE) deducted.

If a person has income that is not being taxed at source, then that person is required to inform HMRC about that income. That notification must be done:

  • Within six months of the end of the tax year.
  • In the same tax year within which the income is earned, i.e. by 5 October following the end of the tax year.
The HMRC will respond with a notice to file a tax return (by post or electronically).

Remember that income can include ad-hoc eBay sales, freelance earnings, savings income over the savings allowance and rental income.

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