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8th April 2021

Everyone on payroll in the UK is allocated a tax code, including contractors who are employees of their limited company, but what are they and how are they important?

In this guide, we will go through everything you need to know about them as they might be more important than you think. Most tax over or underpayments due to incorrect tax codes are usually corrected at the end of the tax year, so there is nothing to worry about, however, it is always good to make sure HMRC’s estimates are correct to avoid paying any tax in advance.

What are they for?

Tax codes are used by employers to calculate tax deductions through the PAYE (pay as you earn) system.  Tax codes are usually passed on from one employer to the next one via P45. In the absence of P45s, standardised codes are used depending on the employee’s personal circumstances.

HMRC often issue revised tax codes throughout the year as and when required.

How do HMRC work out the code?

HMRC works out your tax code based on your income, mainly using previous years’ data. There may be adjustments for current year declarations your employer(s) make about your payroll, such as taxable benefits you may be receiving.

What do the numbers and letters mean?

The combination of letters and numbers refer to your circumstances, as in if you have two jobs, lost your P45, or perhaps your income falls into the higher rate tax band.

Here are examples of the most common tax codes employees will come across:

L – Personal allowance – You are entitled to a personal tax allowance or tax-free amount. The numbers in front of the letter show how much tax-free allowance you get in the tax year, so, for example, 1257L would mean that your tax-free allowance is the standard £12,570 (you get taxed on your earnings over this amount).

0T – Temporary tax code – all income taxed at 20% – this is typically used when a new employer does not have any information (either P45 or starter checklist) and it is usually corrected within a month or two based on advice from HMRC.

BRBasic rate – all income taxed at the basic rate (20%) – typical for second jobs where the standard allowance has been used up by the first job, and where the total income is below £50,270

D0 High rate – tax is deducted from all income at a higher rate (40%), no tax allowance applied, typical for a second job where the total income is above £50,271

W1M1 – W1 (week 1) and M1 (month 1) are emergency tax codes and appear at the end of an employee’s tax code. Tax is deducted only on what you are paid in the current pay period, not based on an annual income.

K – Tax codes with the letter K refer to tax owed for company benefits, pension income or tax owed from previous years that are more than the personal tax allowance. K675, for example, means that your income plus £6,750 is being taxed. This is one of the codes to look out for. If you have been issued a K code and you usually submit personal tax returns every tax year you might want to check with HMRC, otherwise you might be paying too much tax in advance!

What tax code should you be on?

As a limited company contractor with one employment, no taxable company benefits and no additional income (like a pension) you should be on the standard 1257L.

Sometimes, when the personal allowance changes, like when someone stops receiving a company car benefit, HMRC will send out a notice of tax code change (known as the P6 form). When this happens, have a look and see if it is correct. If you think there is a mistake (it happens often) contact your accountant will pick it up and contact HMRC if you authorised them to do so previously.

What are emergency tax codes?

When you leave employment, you get issued with a leaver’s form (P45) to give to your new employer. The form helps them to put you on the right tax code, but sometimes it gets lost or issued too late for it to be applied to your company’s payroll.

In this case, your new employer will ask you to complete a starter checklist and you will be put on an emergency tax code so that the payroll can commence, if the code is not correct HMRC will issue a new one once the first monthly payroll submission is made.

What to do when your tax code is incorrect?

There are a couple of ways you can have your tax code amended if you think it’s incorrect and none of them is very complicated.


HMRC introduced an online tax service for which you can sign up here. The service allows you to check if there is anything affecting your tax code, in addition to seeing and amending employer or pension provider data. Most importantly, you can tell them about changes like amending your tax code.


You can, of course, call HMRC on the general income tax enquiry line (0300 200 3300) and have your tax code changes. Make sure you have your NI number handy and be prepared to answer a few questions about your annual income.

How can your accountant help?

So that your accountant can help with your personal tax matters (tax codes among them), you’ll have to give them authorisation; otherwise, HMRC will not talk to them. The chances are that they already have it if they prepare your self-assessment return for you. If not, give them a ring, and they’ll tell you how to do this.


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