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).