A lot of employees incorrectly assume that employers are responsible for an employee’s tax affairs/tax code. This is mainly based on the fact that the employer deducts Tax from their pay.
Should an employee receive a tax bill for underpaid tax, or even a refund, they query this with the employer as to why this situation has occurred.
Unbeknown to employees, payroll and HM Revenue and Customs (HMRC) work on the basis of assumptions. As an employee you may take the view that the tax code provides accuracy but sometimes it can be based on a bit of a guess.
At the end of the tax year HMRC undertakes an annualized reconciliation which can result in the issuing of a P800, and this will notify an employee of either an overpayment of tax which results in a refund, or an underpayment of tax which can either be paid to HMRC or they will subsequently adjust your tax code.
However, those with annualized adjusted net income that exceeds £100,000 lose £1 of freepay for every £2 they are over this limit. This is NOT an automated calculation via PAYE.
Adjusted net income: What is it?
Adjusted net income is your total taxable income from all sources minus specific deductions. It determines eligibility for personal allowances and additional charges like the High Income Child Benefit Charge.
Here’s how it’s calculated:
- Start with total income:
- Includes income from employment, self-employment, rental property, savings, investments, and pensions.
- Add benefits-in-kind, taxable benefits, and any other taxable income.
- Deduct certain reliefs:
- Pension contributions: Deduct contributions made to pension schemes if they are grossed up for tax relief.
- Gift Aid donations: Deduct gross Gift Aid donations (amount donated plus the basic tax relief).
- Trading losses: Deduct any losses you have incurred from self-employment or partnerships.
The result is the adjusted net income. So, as you can see it is not just about employment income.
See examples below:
Income-related reduction to Personal Allowance, income over £100,000
Bill’s taxable income is £115,000, made up of:
- income from self-employment £85,000
- income from property £20,000
- bank interest £10,000
Bill makes private pension contributions without tax relief of £10,000.
Bill’s net income is £105,000 (£115,000 less £10,000).
There are no further adjustments to Bill’s net income, so this is his adjusted net income.
Bill’s adjusted net income is used to work out his Personal Allowance.
High Income Child Benefit Charge
Clara’s total taxable income is £70,000, made up of:
- income from employment £65,000
- bank interest £5,000
Clara makes private pension contributions without tax relief of £4,750.
Her net income is £65,250 (£70,000 less £4,750).
Clara makes Gift Aid donations of £1,000. She can take £1,250 off her net income, £1,000 plus £250, the value of the basic rate tax.
Clara’s adjusted net income is £64,000 (£65,250 less £1,250).
Clara’s adjusted net income is used to work out her High Income Child Benefit Charge.
Further information can be found Personal Allowances: adjusted net income - GOV.UK
