Understanding Employee Tax Codes

Understanding employee tax codes is essential when running payroll. Tax codes tell your payroll software how much tax to deduct from each employee's pay throughout the year. This guide explains how to read tax codes, what the numbers and letters mean, and what action to take when HMRC issues a new code.

What is a tax code?

A tax code is made up of numbers and letters that you enter into your payroll software. The most common tax code for the 2025/26 tax year is 1257L, which applies to most people with one job and no untaxed income, unpaid tax or taxable benefits.

When you take on a new employee, you normally work out their tax code using the information on their P45. If they don't have a P45, you may need to use an emergency tax code temporarily until HMRC provides the correct code.

How the numbers work

The numbers in a tax code show how much tax-free income an employee can receive in the tax year before they start paying tax.

You multiply the number in the tax code by 10 to get the employee's tax-free Personal Allowance.

Example: An employee with tax code 1257L can earn £12,570 before being taxed. If they earn £27,000 per year, you calculate their taxable income as £14,430 (£27,000 minus £12,570).

This method works for most tax codes, but codes containing the letter K follow a different process (explained below).

What the letters mean

The letter in a tax code indicates the employee's circumstances and how these affect their Personal Allowance:

L – The employee is entitled to the standard tax-free Personal Allowance. Tax is deducted at basic, higher and additional rates depending on income.

M – The employee's spouse or civil partner has transferred some of their Personal Allowance to them.

N – The employee has transferred some of their Personal Allowance to their spouse or civil partner.

T – HMRC needs to review some items with the employee. Tax is deducted at basic, higher and additional rates.

0T – The employee has no Personal Allowance. Tax is deducted from all income. This code is used when an employee hasn't provided a P45 or enough details to work out their tax code, or when their Personal Allowance has been used up.

BR – All income is taxed at the basic rate. Usually used for a second job or pension.

D0 – All income is taxed at the higher rate. Usually used for a second job or pension.

D1 – All income is taxed at the additional rate. Usually used for a second job or pension.

NT – No tax is deducted. This applies in very specific cases.

Scottish tax codes

If your employee's main home is in Scotland, their tax code will include the letter S:

S – Tax is deducted using Scottish tax bands.

S0T – No Personal Allowance (Scottish resident).

SBR – Basic rate in Scotland (second job or pension).

SD0 – Intermediate rate in Scotland (second job or pension).

SD1 – Higher rate in Scotland (second job or pension).

SD2 – Advanced rate in Scotland (second job or pension).

SD3 – Top rate in Scotland (second job or pension).

Welsh tax codes

If your employee's main home is in Wales, their tax code will include the letter C:

C – Tax is deducted using Welsh tax bands.

C0T – No Personal Allowance (Welsh resident).

CBR – Basic rate in Wales (second job or pension).

CD0 – Higher rate in Wales (second job or pension).

CD1 – Additional rate in Wales (second job or pension).

Emergency tax codes

Emergency tax codes end with W1 (week 1) or M1 (month 1), for example 1257L W1 or 1257L M1.

When you see W1 or M1, you calculate tax only on what the employee is paid in the current pay period, not on their cumulative earnings for the year. Emergency codes can be used if a new employee does not have a P45.

The code 1257L is only an emergency tax code when it's followed by W1, M1 or X.

Tax codes with the letter K

The letter K appears when deductions due for company benefits, state pension or tax owed from previous years are greater than the employee's Personal Allowance.

With a K code, you multiply the number by 10 and add this amount to the employee's taxable income before calculating deductions.

Example: An employee with tax code K475 and a salary of £27,000 has taxable income of £31,750 (£27,000 plus £4,750).

The tax deduction for each pay period cannot be more than half the employee's pre-tax pay or pension.

When tax codes change during the year

An employee's tax code usually changes when their tax-free income goes up or down. This might happen if they start or stop receiving a taxable benefit like a company car.

HMRC will send you an email alert when one of your employees' tax codes changes. This notification is sometimes called a P6 form.

When you receive a tax code change notification:

1. Access the new tax code through PAYE Online (in 'tax code notices'), the PAYE Desktop Viewer application, or your payroll software if it has this feature

2. Check whether the employee's previous pay and tax figures are included with the new tax code – if they are, note these figures

3. Update the employee's payroll record with the new tax code as soon as possible, and before you next pay them

4. Add any previous pay and tax figures that came with the new tax code

If you receive a new tax code too late to use in the current tax year, use it in the new tax year instead.

Updating tax codes for the new tax year

The tax year starts on 6 April. Between January and March, HMRC will notify you about any new tax codes to use for employees in the new tax year.

If an employee's tax code is not changing, HMRC will not contact you. You should carry forward the employee's existing tax code to the new tax year.

Important exception: If your employee's tax code ends with M1 or W1, HMRC will tell you separately what to do for the new tax year. Do not automatically carry these codes forward.

Sources

• Understanding your employees' tax codes
• P9X: Tax codes

This article provides general guidance based on current HMRC rules. For advice specific to your situation, speak to your accountant.