Most contractors will already be aware of what tax codes are from their previous roles as they are not solely given to contractors but rather all working UK residents. For those that don’t know, tax codes are a way of helping the HMRC with their cash flow and are based on the level of tax-free income you are entitled to.
For example, everyone is able to earn a certain amount before having to pay income tax – currently standing at £8,105 per year, although this does change from year to year so it’s important to check the HMRC website.
Emergency Tax Codes
Tax codes can get complicated when you start taking into account things such as medical insurance and similar expenses because this changes the tax code you may be given. An important thing to remember as a contractor is that PAYE (for those that are dealing with this payment form) is cumulative so if you do not have your P45 from you last job, you will be instantly working under an emergency tax code which is exactly the same for each individual meaning that it won’t take into account these kinds of expenses.
For example, the emergency tax code changes each year but is always a number followed by the letter L and everyone who has an emergency tax code is given the same one. The number relates to the amount that the personal allowance is which is why it changes each year. The way it is worked out is the personal allowance (which at the time of writing is £8105) divided by ten, meaning that at the time of writing the emergency tax code would be 810L (there’s no decimal places on the number).
Applying for a Tax Refund
Emergency tax codes are only necessary for individuals who don’t have a P45 from their previous position but should be avoided where possible as they often result in the contractor paying a higher rate of tax than they are required to pay.
However, that doesn’t mean that if you pay more than necessary you have lost out on this money, you can apply for a tax refund if you are not automatically given one by contacting your local HMRC office or hiring a tax agent. The process can be a difficult and time-consuming one so many choose to use a tax agent to take care of this for them.