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HMRC collection of debt: Coding out

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23rd Sep 2013
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It is I’m sure, common knowledge, that it has become increasingly important that HMRC collect tax owed in the most effective way possible to ensure that money is available to fund public services, says Diana Bruce of the CIPP.

We have seen the introduction of real time information (RTI) this year which although driven by the new Universal Credit system, is ensuring more employees pay the right tax at the right time.

‘Coding out’ is used by HMRC to recover tax credit and self assessment (SA) debts where the taxpayer has not paid voluntarily. It was introduced in 2011 and is now an established method of debt collection. HMRC assigns a new tax code to the debtor meaning that the normal deductions made from a taxpayer’s earnings by their employer will be increased to include an amount that will pay off the sum they owe over the tax year.

Coding out can also be used where there has been an underpayment of PAYE or an amount owing under a taxpayer’s SA tax return if it is below the £3,000 limit. In these cases, an individual will often be able to pay back the underpayment for the current or earlier tax years through an adjustment to their tax code. The current coding out limit of £3,000 per annum was set in 2011 in order to strike a reasonable balance between allowing HMRC to recover debts, while protecting lower earners. But as it applies to all taxpayers regardless of their incomes, it represents a larger proportion of lower earners’ income compared to that of higher earners.

Consultation

Coding out is a tool that can work well for lower and middle income earners, but from which higher earners are often excluded. For example at present if someone owes £2,995 and earns £25,000 per annum, HMRC can use coding out to collect the debt. But if they owe £3,005 and earn £100,000 per annum, HMRC is not able to use coding out to collect the debt and must instead use more expensive debt pursuit methods. HMRC is therefore proposing to replace the current single scale by a graduated scale of limits. This would protect those on lower incomes, with no change to the maximum that could be coded out for those earning less than £30,000, and introduce a graduated, income related scale for earnings of £30,000 or more so that a maximum of £17,000 could be coded out for a person with earnings of more than £90,000. To avoid any change for low earners, HMRC is proposing that the limit would remain at £3,000 for anyone with a primary source of PAYE income of less than £30,000 a year. The proposed graduated scale is:

  • Earnings <£30k pa coding out limit                         £3k                     
  • Earnings £30k -£40k pa  coding out limit                £5k
  • Earnings £40k - £50k pa coding out limit                £7k
  • Earnings £50k - £60k pa coding out limit                £9k
  • Earnings £60k - £70k pa coding out limit                £11k
  • Earnings £70k - £80k pa coding out limit                £13k
  • Earnings £80k - £90k pa coding out limit                £15k
  • Earnings >£90k pa coding out limit                          £17k

The CIPP conducted a short survey to gather our members’ opinions on the changes. Two thirds of respondents felt that the graduated coding out limits recommended were at the right level, however the main concern from others was that the debt limit was too high and a percentage graduation method would be fairer.

K codes

A ‘K code’ is a tax code used in circumstances where the amount to be deducted is in excess of the personal allowance. PAYE legislation currently provides an overriding limit of 50% for K codes. This means that when an employer operates a K code it will not result in deductions of more than 50% of the employee’s relevant pay. Other tax codes do not have similar statutory safeguards although HMRC’s business rules have built similar limits into the IT systems that generally protect customers from excessive tax deductions. To ensure a consistent approach, HMRC now proposes to extend the legislative 50% overriding limit to all tax codes. CIPP members were in broad agreement with this proposal although it became apparent through their comments that many believe this safeguard was actually already in place.

Partial coding out

HMRC has the power to split debts so that part of a debt is collected through the tax code up to the coding out limit, with the remainder collected through another method. It does not currently use this facility as the IT capability has not been developed. The ability to recover over more than one year through the tax code will allow HMRC to use this recovery method for a greater number of debts. HMRC proposes to explore the potential to make best use of existing legislation and recover debts over more than one year where appropriate so that they can make best use of the increased limits and they plan to do this over the coming months.

The majority of our members agreed (91%) and several commented that the debt should be spread over several years if necessary to avoid any hardship on individuals. There were also several comments asking (pleading) for tax coding notices to be clearer to try and reduce the number of queries to the payroll department when an employee’s tax code changes due to coding out debt.

Conclusion

The CIPP members who responded to the survey are on the whole supportive of the coding out proposals, however there were many comments regarding low earners not to be negatively impacted by any changes. There was significant concern that while there will be no real extra burden administering the tax code changes, the predicted increase in employee enquiries will have a big impact on employers.  The CIPP fully supports member opinion that HMRC should help to reduce this impact by providing clearer explanations of tax code changes to employees. In our formal consultation response to HMRC, we recommended that wording be improved in explanatory letters sent to individuals when tax codes are adjusted.

Diana Bruce is the senior policy liaison officer for the Chartered Institute of Payroll Professionals (CIPP).

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Replies (5)

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By carnmores
23rd Sep 2013 19:02

its still too much too soon

these deductions usually as a result of HMRC errors should be phased over at least 2 years

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By chicken farmer
24th Sep 2013 08:04

Oh, No, it wasn't!

Diana unfortunately gives credence to the statement by the author of the condoc that coding out was introduced in 2011. It has been a feature of the PAYE system for over 50 years! 

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ghm
By TaxTeddy
24th Sep 2013 11:38

Thanks 'chicken farmer'....

..... I thought it was just me. I remember a 'coding out' exercise when I first joined the Revenue back in 1976.

Turning to these proposals - will this really help or is it just one more thing to be added to the tables I need to check 20 times a day?

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By tonycourt
25th Sep 2013 12:07

A recipie for disaster!

Coding out, while helpful in many cases, often gets untidy as an underpayment  for one year effectively gets rolled in part into another (and another!) thus leaving taxpayers, and often HMRC and advisors, thoroughly confused.

I know that time is wasted on all sides sorting out these situations

I understand the cost saving advantages for the government of collecting debts this way, although HMRC seem sell the idea as some form of largesse on their part. However I suspect much of what's gained is subsequently lost with the extra admin in sorting out the mess coding out creates.

Furthermore coded underpayments can and frequently do get "stranded". That's to say they can't be collected through PAYE because the individual falls out of work or switch to self-employment, which further delays collection.

£3,000 seems a reasonable limit for coding out to me. Anything above this I think should be collected directly. Perhaps to assist HMRC could introduce an automatic scale of time-to-pay deals for PAYE underpayments. This would avoid inconsistent treatment by different debt management offices and reduce the time they spend deciding on whether or not they can allow deferred payment. They could charge interest to make up for having to administer direct debt collection. 

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By pauljohnston
30th Sep 2013 15:28

@tonycourt

YOur last paragragh is a good one and is one that many businesses follow.  It is better to get a regular repayment of tax than to go court only to find the business has to be woulnd up through lack of funds.  Or the self-employed man who loses the will to continue to trade because to continued harrassment by HMRC.  In our office we have seen threatening letters for £100.

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