An employer or pension provider uses a tax code in order to work out how much Income Tax should be taken from a person’s pay or pension. HMRC tells them which code should be used in order to collect the correct amount of tax. Tax codes tend to start with a number, and end with a letter. Currently, 1250L is the tax code which is used for most people who have one job or pension.
The letters refer to a particular situation a person is in and how this affects their Personal Allowance.
For instance, while L means the taxpayer is entitled to the standard tax-free Personal Allowance, M means a taxpayer has received a transfer of 10 per cent of their partner’s Personal Allowance.
This latter letter occurs when a taxpayer’s partner claims the Marriage Allowance.
The government website explains how the numbers are worked out.
It says that the numbers in the tax code tell the employer or pension provider using the tax code how much tax-free income one gets in that tax year.
First, HMRC will work out the tax-free Personal Allowance.
The next step is that income that tax has not been paid on (such as untaxed interest or part-time earnings) and the value of any benefits from a job are added up.
Benefits can include having a company car.
The income that one has not paid tax on is then taken away from the Personal Allowance.
What is left is the tax-free income the taxpayer is allowed in a tax year.
Finally, to determine the number for the tax code, the final digit of this tax-free income amount is removed.
The current tax year is from April 6 2019 to April 5 2020, and the standard Personal Allowance is £12,500.
This is the amount of income which a person does not have to pay tax on.
It may be that an individual has a different Personal Allowance if they claim the Marriage Allowance or Blind Person’s Allowance.
The allowance may reduce if a person has an income of more than £100,000, reducing by £1 for every £2 that the adjusted net income exceeds this threshold.
If annual income is £125,000 or more, then the allowance is zero.